A NEW WAVE OF CONNECTIVITY

India’s most successful spectrum auction, which ended two months ago, is likely to play a major role in the Indian telecom sector. This auction demonstrated that the big three players viz. Sunil Mittal-owned Airtel, MNC-owned Vodafone and Birla-owned Idea will consolidate their market shares while a fourth major player could emerge in cash-rich Reliance Jio. These four players accounted for nearly 85 per cent of the winning bids. They have secured a 20-year road map and have a strong platform to lead the ‘Digital India’ story.

Idea, Airtel, Vodafone and Reliance Communications participated in the auction mainly to defend their existing spectrum holding which will expire in 2015-16. Reliance Jio, Tata Teleservices, Telewings (Uninor) and Aircel participated to buy additional spectrum. We also saw government-conducted auctions in all available bands (800 MHz, 900 MHz, 1800 MHz and 2100 MHz) simultaneously as this will allow adequate supply and will also provide more flexibility and choice to the operators to structure their operations and business plans.

The debt-laden telecom companies will be further leveraged as operators would prefer to pay for winning bids to the government in annual installments. Depending on the band, they were required to make an upfront payment of 33 per cent in case of 1800 MHz and 2100 MHz bands and 25 per cent for 900 MHz and 800 MHz bands within 10 calendar days of the close of the auction that ended on April 4, which we assume they have already submitted. The rest would need to be paid in 10 equal installments after a two-year moratorium i.e. from 2017.

Double-Edged 900 MHz Band

The auction held in 2015 has been witness to a bloodbath between the big three players i.e. Airtel, Idea and Vodafone as their licenses, especially in the 900 MHz band, will expire in 2015-2016 and for the important fact that this band can be used for both 2G and 3G services. In the renewal circle huge investments have already been made by these companies on the assurance of a continuity of business enshrined in the licenses issued by the DoT.

Therefore, bidding was expectedly fierce in the 900 MHz band where the overall asking price nearly doubled at around 93 per cent over the reserve price with circles like eastern UP’s bid up by around 240 per cent over the reserve price. Other parts of India like western UP, Rajasthan, Bihar and Assam witnessed high-decibel demand by 330, 260, 200 and 150 per cent premium respectively. The government raised 66.4 per cent of the overall sum of Rs 729.65 billion through this popular 900 MHz spectrum auction.

800 Mhz for CDMA-Based Telecom Services

The 800 MHz spectrum, generally used for CDMA-based telecom services, is attracting attention due to its ability to be used for FD-LTE (frequency duplex long-term evolution) versions of 4G-based telecom technology. Only three players showed interest in the 800 MHz band auction. Reliance Jio has bagged contiguous blocks of 5 MHz in 9 circles and 3.75 MHz in one circle i.e. overall the company bought 48.8 Mhz spectrum in the 800 Mhz band.

RCom has bought a total of 26.3 Mhz in the 800 Mhz band and has ensured that it has at least 5 MHz of spectrum in each of the 22 circles in this band, which will enable it to expand its Pro3 (Rev.B) footprint and launch FD-LTE in the future. Tata Teleservices also bought top-up spectrum in the circles where their 800 MHz licenses will be expiring in 2018 to secure the continuity of their operations in these circles. While some circles in the 800 MHz band such as Delhi, Mumbai and Madhya Pradesh saw prices topping the proceeds for the 900 MHz band due to future competition in 4G services, another surprising factor was the near absence of aggressive bidding in 3G band of 2100 MHz.

1800 MHz Band for 4G Rollout

A lower frequency band i.e. 1800 MHz is ideal for LTE (long-term evolution) deployment in the country as it increases coverage as well as in-building penetration compared to the 2300 MHz spectrum. Also, 4G on 1,800 MHz needs 30 per cent fewer towers than on 2300 MHz. Globally, 108 operators in 58 countries have commercially launched 4G services on 1800 MHz either as a single-band operator or within a multi-band deployment, according to a study by The Global Mobile Suppliers Association (GSA). At present, the 1800 MHz band covers 44 per cent of the total LTE or 4G networks globally.

In the recent spectrum auction, Bharti Airtel has acquired 1800 MHz spectrum in Punjab, Andhra Pradesh, Kolkata, Orissa, Haryana and Northeast circles. In the 2014 spectrum auction Bharti Airtel won 1800 MHz spectrum in 15 circles. With all these acquisitions Bharti Airtel has now more bandwidth in 1800 MHz vis-a-vis 2300 MHz. Reliance Jio had acquired 1800 MHz band in 14 circles across India in 2014. In March 2015 it also added spectrum in 1800 Mhz in four new circles and added spectrum in two existing circles. In total it bought 28 Mhz spectrum in 1800 Mhz band in the 2015 auction.

2100 Mhz Spectrum: First of its Kind

The 2100 MHz band, the first spectrum band to be auctioned in India, is getting much lesser attention from bidders compared with the auction in 2010 when three blocks of 5 MHz were sold at many multiples of the reserve price. This time only one block is available for sale across 17 circles. In the 2100 MHz band the price premium has been limited to Assam by 13.7 per cent, in the Northeast by 13.6 per cent, Odisha by 9.2 per cent and Rajasthan by 17 per cent whereas Kerala, Kolkata, Madhya Pradesh and eastern Uttar Pradesh by 5 to 6 per cent. There was no additional demand for the 2100 MHz spectrum in the circles of Delhi, Gujarat and Karnataka.

Indian Telecom Sector: 2001 to 2015

The telecom revolution in India took off when the NDA government under the leadership of Prime Minister Atal Bihari Vajpayee announced a liberalisation of the telecom sector by moving away from auctioning the spectrum to a revenue sharing model in 2001. This was for inviting private players like Airtel and Reliance, among many others, into the sector with only a nominal upfront charge. Through the revenue sharing model the capital of the network operators freed up and they invested in actual infrastructure rather than in license fees payable to the government as had happened in some of the countries in Europe.

In 2008, the UPA government abandoned the successful revenue sharing model and adopted an obscure, first-come, first-serve model. This shift led to deep corruption and the bribing of government officials by telecom companies. Telecom companies, having spent billions of rupees on bribes, were left with no money to invest in infrastructure. The 2G spectrum scam that surfaced in 2012 led the Supreme Court to cancel 122 telecom licenses and ordered spectrum auctioning again, thus forcing some telecom operators to shut down and others to sell out. 

However, this year the spectrum auction was done in a transparent manner and also turned out to be the fiercest of its kind in India’s telecom history. The government raised a record Rs 1,098.7 billion, which is at 68 per cent premium as the base price was Rs 654 billion. The spectrum sharing and trading guidelines will be release in the next three months as per the TRAI. The regulator may allow trading of the spectrum. As of now though only the government is allowed to allocate spectrum to telecom firms through auctions. Once trading is made permissible, it is expected to increase efficient use of radio waves by enabling telecom operators, who have a lower subscriber base or unutilised spectrum, to trade in it.

Many European countries have also witnessed expensive auctions over recent years but the Indian spectrum auction of March 2015 turned out to be the costliest with telecom businesses having long been forced to run networks with far less spectrum than competitors in other countries. India is the second-largest and one of the fastest growing telecom markets in the world in terms of customers but falls behind when it comes to the amount of revenue generated from subscribers in comparison to other countries. This is observed from the fact that the average revenue per user (ARPU) across Europe is around USD 20-40 while in the US it is closer to USD 50-70 for wireless communications services. In India, the ARPUs are less than USD 3.

The Way Ahead for Telcos

We believe that the auction will spur consolidation, which should strengthen the telcos’ pricing power. In the medium term we think that the market will support six competitors from the current lot of 10 players as smaller and weaker telcos will seek M&A or exit the industry, given the high spectrum prices and stretched balance-sheets. However, they are waiting for easing of the M&A rules. RCom is in talks with MTS India for acquisition while Telenor may buy a major stake in Videocon Telecom.

Any consolidation in the telecom industry will lead to a hike in the tariff, which will help to recover the higher cost of spectrum auctions. The three possibilities that will lead to a hike in tariff are:

1. Increase in 2G data tariffs for prompting subscribers to adopt 3G and 4G. 
2. Increase in 3G data tariffs and reduction of 4G data tariffs to promote 4G. 
3. Increase in voice tariffs.

Data to Dominate

Most of the telecom operators have seen a significant growth in the data segment. Despite the jump in mobile data over the past year, voice revenues still make up close to 75-80 per cent of the operators’ revenues. However, with wider adoption of 3G network and smartphones, data consumption has grown massively, and is most likely to grow in the coming years. We feel that 4G is set to revolutionize the Indian telecom scenario. The inclusion of fiber optic connectivity will tremendously increase the reach and bandwidth. 3G will also gain substantial momentum, while 2G will continue to be the most preferred. The quality of services is set to improve with companies taking a step forward to invest in infrastructure.

Urban & Rural Growth

With the increasing penetration of smartphones, the number of mobile internet users in India is expected to reach 213 million by June 2015 as against 173 million in December 2014 - a 23 per cent jump over six months, according to a report titled ‘Mobile Internet in India 2014’ released by the Internet & Mobile Association of India (IAMAI) and IMRB International. Urban India, however, will continue to account for a large percentage of mobile internet users across the country and is expected to reach 160 million by June 2015, according to the report. In rural areas, however, the focus is still on increasing usage. While the current focus of data is on urban customers, telcos will aim to attract rural customers as well.

The report reveals that for 74 per cent of the mobile internet users, the primary activity is to access email, followed by social networking which accounts for about 61 per cent of the usage. Online chatting through instant messengers, watching videos, listening to music and navigation are some of the other activities common among Indian users.

M-Commerce: New Face of E-Commerce

The Indian e-commerce sector is estimated at USD 20 billion and is expected to grow 15 times by 2030, according to Goldman Sachs which has cited hyper growth in affordable smartphones, improving infrastructure, and a propensity to transact online as key growth factors. In fact, India is currently estimated to be one of the fastest growing e-commerce markets in the Asia-Pacific region. The key macro-economic drivers of this growth are a young demographic supported by rising income levels, internet penetration, and smartphone sales.

Growing smartphone adoption has also supported this evolution. There are around 116 million smartphone users in India, making the country the second-largest smartphone market after China. There only 10 per cent of mobile users use smartphones and only 5 per cent of the e-commerce transactions were made through a mobile device. With increased mobile internet penetration, e-commerce players feel that mobile commerce (m-commerce) is the way ahead for them. Take Myntra, for instance, which has just gone totally mobile. With mobile apps being developed by most e-commerce websites, smartphones are increasingly replacing PCs for online shopping.

Public Wi-Fi: A Big Phenomenon

Telecom operators have also shown a keen interest in setting up public Wi-Fis as they look to reduce load on their networks. The year 2015 is most likely to see installations of a heterogeneous network (hetnet) model, which emphasizes on better indoor coverage. Airtel is already working on the model in Gurgaon that comprises outdoor Wi-Fi points, macro cell sites and pico cells to cater to varying data requirements.

Moreover, the Indian government has already announced plans to provide Wi-Fi connectivity at public places in top 25 cities with population of over 10 lakh. The project is jointly being worked out by the Department of Telecom and Ministry of Urban Development. We will see a significant spurt in Wi-Fi hotspots’ demand driven by both the government’s smart cities’ project and the Digital India movement along with and private sector initiatives.

After considering the above factors, we believe it will build pressure on telcos' income statement, balance sheets and cash flow in the succeeding two financial years, and limit their ability to invest in capex over the medium term. However the relief factor one can argue is that this is the last big round of auctions and the market going forward will consist of about four to five key operators-Bharti, IDEA, Vodafone, Reliance Jio and RCom.

Though for the first two years financial performance may be muted for telcos’, for long-term perspective they have bright future. We will see huge conversion from feature mobile to smartphones in forthcoming year due to smart phones now available at affordable price which will boost demand of data in value and volume term. The telcos will report steady improvement in revenues and profitability after FY17.