F Telecom Sector: Trends & Outlook

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TELECOM SECTOR: TRENDS & OUTLOOK


September 2012






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F Telecom Sector: Trends & Outlook

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Summary

1. Industry at an inflection point; 2G game largely played out; future growth to be driven by non-voice services

The Indian mobile services industry has been the fastest growing mobile services market in the world, registering a CAGR of more than 50% in terms of
subscribers and 15% in terms of gross revenues over the past decade. The industry is presently the second largest globally by subscriber base with the total
subscriber base of 913.5 million as on July 2012. The strong growth in the industry can be attributed primarily to the countrys large population, healthy
economic growth, affordable handsets, and most importantly low tariffs.
Increasing price competition and aggressive customer acquisitions by the telecom operators (telcos) led to frequent migrations between plans/telcos by the
price-sensitive subscribers, leading to proliferation of inactive connections. In such a scenario, active subscribers is a more accurate representation of the
subscriber base in the country, and stands at 76% of the total subscribers as on July 2012, translating into active teledensity of 57%. It points to the
increasing saturation in the industry and the pace of subscriber addition is not likely to be as strong as before.
Given the fact that the urban areas have significantly high teledensity as compared to the rural areas, much of the incremental subscribers growth, going
forward, would have to be driven by addition of rural subscribers. But the rate of penetration of mobile services in the rural areas being slow, overall
incremental subscriber growth is likely to slow down.
The Indian telecom industry is highly competitive with at least seven telcos in each circle and up to 12 telcos in some circles competing for market share. This
makes India one of the most crowded mobile markets globallythe number of telcos in most countries ranges from two to fiveand has led to aggressive
pricing by telcos during the last two years. The impact of such pricing strategies is reflected in the trend of decline in the industrys key operating metrices:
Average Revenue per User (ARPU); and Average Rate per Minute (RPM).
The average ARPU in India stands at around US$2 (March 2012) as against the estimated US$63 for NTT Docomo, Japan; US$33 for Vodafone, UK; and US$12
for China Mobile, China. A similar pattern is seen in the case of RPM. Besides higher competition and the resultant low tariffs (the Indian mobile industry has
one of the lowest tariffs in the world), this difference is also explained by the high proportion of prepaid subscribers in India (95% versus less than 50% in
Europe) and the low penetration of non-voice revenues in the country.
With the cancellation of telecom licences following the February 2012 order of the Supreme Court (SC), the number of telcos in the industry is expected to
reduce, which in turn should lead to some abatement in the competitive intensity. This, along with the anticipated regulatory payouts, could prompt the
telcos to raise tariffs.
With revenues from voice services stagnating, future growth is likely to be driven by wireless data services. Telcos have already invested significantly in
acquiring spectrum for third generation (3G) and broadband wireless access (BWA) and are now expanding their footprint across the country, albeit
cautiously. Till date, revenues from data services remain significantly low in India vis--vis other countries largely because of the relatively high pricing; lack
of handset affordability; and limited content availability. Extrapolating from the experience in some of the other mobile markets, in India too, data is likely to
be a long-term play and take some time to mature.
Despite being the second largest market, India lags behind in terms of availability of spectrum for commercial use. The per operator spectrum allocation in
India is low (around 6 MHz) and compares unfavourably with other countries (worldwide average of estimated 17 MHz).
Besides data, the telcos have been looking at other services to bolster their topline. Some business segments that have emerged as important revenue
drivers for the industry are: enterprise communications, broadband services, direct-to-home (DTH) and data centres. While each segment has its own set of
competitors, the telcos have an advantage, given their established subsciber base, network deployment and technological knowhow.

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2. Regulatory Environment: A Key Challenge

Recent events like 2G controversy and the cancellation of these licences by SC have led to significant regulatory uncertainty in the industry. The Department
of Telecom (DoT) and Telecom Regulatory Authority of India (TRAI) have made several policy changes and recommendations in such critical areas as
delinking of licence from spectrum, allocation of spectrum via auctions, and spectrum liberalisation. Nevertheless, greater clarity is still awaited in some key
areas such as levy of one-time spectrum charge, re-farming of spectrum, and legality of 3G roaming agreements.
A major development has been the finalisation of the 2G auction reserve price and the modalities for the auction to be held in November 2012. This auction
will have long-term implications for the sector in terms of deployment of technology (as the auctioned spectrum would be liberalised), cost of acquiring
spectrum, competitive intensity, spectrum holding, and pricing flexibility of the operators. Moreover, the auction-determined prices would form the basis for
price to be paid by the operators for spectrum in future for renewal of spectrum or the one-time spectrum charge (if levied). Hence, the high spectrum cost
will impact the cost metrices of the telcos, who are already burdened by highly leveraged balance sheets.
TRAI in its recent recommendations has envisaged re-farming of sub 1 GHz spectrum with the supra 1 GHz spectrum, which would require the telcos to
commit significant investments towards network reconfiguration. Spectrum re-farming is likely to impact the incumbents more than the new operators,
given that the incumbents hold a relatively higher proportion of sub-1 GHz.

3. Tower Industry muted growth outlook

The telecom tower industry, after reporting a robust growth till 2010, is presently witnessing a slowdown with the telcos curtailing their network rolout
plans. The cancellation of telecom licences in February 2012 has been another setback for the tower industry, as this is likely to lead to loss of tenancies and
build-up of receivables.
The tower industry is awaiting clarity on reduction in the limit on foreign direct investment (FDI) in the sector and the inclusion of tower companies within
the purview of licensing.
Currently, some telcos are even exploring the possibility of divesting their equity stake in tower companies in order to meet funding requirements.

4. Stretched financial profile of the telcos

The financial profile of most of the telcos has deteriorated considerably since March 2010, mainly because of the significant debt-funding of their capital
expenditure; acquisition of 3G and broadband wireless access spectrum; and overseas acquisition. The financial risks arising out of such deterioration are
aggravated by the fact that a significant portion of the debt is foreign currency (largely USD)-denominated (for example 81% for Bharti Airtel, 76% for
Reliance Communication as on March 31, 2012), while the revenues are largely denominated in rupees.
Going forward, the telcos are likely to require sizeable funding to meet the commitments related to regulatory developments. The telcos would have to
make decisions on the amount of spectrum (circle-wise) that they would want to renew/re-farm, and their existing capital structure would have an
important bearing on these decisions.
The banking sectors exposure to the telecom industry has grown significantly, with the proportion of credit exposure to the sector to the gross credit
increasing from 1.9% in FY10 to 2.1% in FY12. Given the challenging environment prevailing, obtaining institutional funds would not be easy for the telcos.
The Government of India has allowed mortgaging of spectrum, to make funding available for the industry. However, Reserve Bank of India (RBI) is yet to
issue guidelines on use of licence/spectrum as collateral against loans.
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Table of Contents

I. Introduction 6
II. Industry at an inflection point; 2G game largely played out; awaiting the next wave of growth 7
1. High growth trajectory in the past decade; subscriber growth expected to be relatively muted going forward 7
2. Market Dynamics: incumbents enjoy high revenue market share 8
3. Stabilising of operating metrices 8
4. Abatement in competitive intensity 10
5. High proportion of low ARPU prepaid customers lowers overall revenue and profitability 10
6. Industry to find new growth drivers; uptrend to appear in longer than earlier envisaged time 11
7. Diversification into related business to augment revenue stream 13
8. Spectrum constraints an impediment for the industry 15
III. Regulatory Environment: A Key Challenge 16
1. Existing Regulatory Framework 16
2. Industry beset with regulatory uncertainty 17
3. Cancellation of 2G licences by the Honourable Supreme Court 17
4. Upcoming Spectrum Auctions: Changing the landscape of the industry 18
4.1. Relatively high reserve price for the upcoming spectrum auction 18
4.2. Usage and validity of Spectrum 19
4.3. Delinking of spectrum from licences 19
4.4. Issues requiring further clarity 19
5. Significant cash flow implication for the industry as the prices discovered through auction would form the base for future spectrum related charges 20
6. Levy of One Time Spectrum Fee 22
7. Re-farming of Spectrum: Dilution of advantages of cost effective operations in the sub 1GHz spectrum 22
8. Ambiguity regarding 3G roaming agreements; viability of 3G services hinges upon permitting of roaming pacts 23
9. Spectrum Caps 23
10. Norms for Mergers & Acquisitions 24
11. Positive impact of licence fee revision 26
12. Removal of roaming charges likely to impact revenues and profitability of telcos 26
IV. Tower Industry subdued growth outlook 27
1. Emergence of telecom towers as a separate industry 27
2. Fragmented industry, but dominated by a few large players 28
3. Muted growth in telecom industry leads to slowdown in tower roll out 28
4. Impending clarity regarding FDI limits in telecom tower companies; proposal to bring them under the licensing regime 29
5. Exit of new telcos could result in a drop in tenancy and build-up of receivables 29
6. Telcos exploring the possibility of divesting their stake in tower assets to deleverage their balance sheets 29
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V. Stretched financial profile of the telcos 30
1. Leveraged balance sheets due to 3G/BWA spectrum & rollout 30
2. Large foreign currency debt rupee depreciation further aggravates the financial profile 30
3. Stretched capital structure to weigh on the funding required for regulatory payouts 31
4. Funding tie up from banks an uphill task for telecom sector 31

Company Section
1. Bharti Airtel Limited (Bharti) 33
2. Idea Cellular Limited (Idea) 37
3. Mahanagar Telephone Nigam Limited (MTNL) 40
4. Reliance Communications Limited (RCom) 43
5. Tata Teleservices (Maharashtra) Limited (TTML) 47

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