Telcos and Tech: What’s in the basket?

This article gives a complete overview of the recent and possible upcoming deals between Indian telecom operators and US tech giants by addressing issues like AGR, focussing on the benefits from such deals to both parties, competition for the coming decade (chances of monopoly), vertical integration for holistic control from tech’s perspective and financials depicting deals as the only possible survival strategy.

US technology companies appear to be seeking a foothold in India’s telecom sector through acquisitions of minority stakes that could potentially shore up the fortunes of both. This comes at a time when India’s online retail industry is seen at an inflection point due to the coronavirus pandemic, which has sharply boosted the adoption of digital services.

According to a Morgan Stanley report released last month, India’s e-commerce population could grow sharply post COVID-19 and online penetration in grocery shopping could finally reach an inflection point, along with a surge in segments such as gaming, Edtech and health tech, as well as cloud services.

The emergence of a few large tech companies (Super Apps or category leaders) in the next 5-6 years is a must. These developments are notably important for some of the global tech companies that have invested in India as stepping stone towards vertical integration. The Jeff Bezos’ e-commerce giant Amazon.com is in early-stage talks to buy a roughly 5% stake worth at least $2 billion in Bharti Airtel Ltd, a move that could give India’s third-largest telecom company a financial boost in this hyper-competitive market.

The developments that could be seen is explained by an example of the so said ‘upcoming deal’. If the Amazon-Bharti Airtel deal happens, it may help Amazon leverage Airtel’s subscriber base to cross-sell its services. Organically, it may take Amazon years to reach such a chunky (user) base, but in any form of partnership, it could be sooner. Bharti Airtel would also gain from a potential alliance with Amazon, whose subsidiary Amazon Web Services (AWS), leads the global cloud services market, according to analysts. Airtel could also benefit from Amazon’s purchase-level insight due to its e-commerce services.

From an Indian perspective, among Facebook marketplace, Google Shopping and the Amazon marketplace, the latter has the maximum purchase-level insight. The news about a potential Amazon-Airtel alliance comes on the back of Facebook picking a 9.99% stake in Jio Platforms Ltd for $5.7 billion.

India’s largest mobile operator Reliance Jio Infocomm Ltd. is a wholly-owned unit of Jio Platforms, which in turn is owned by Reliance Industries Ltd. Multiple private equity deals including KKR, General Atlantic, Vista Equity Partners and Silver Lake, followed the Facebook deal, which resulted in RIL securing an investment upwards of $10 billion.

Another news that came into the limelight was the technology behemoth, Alphabet Inc.’s Google, being in talks with Vodafone Idea Ltd for a potential stake purchase. However, Vodafone Idea spokesperson has confirmed that the deal has not yet been finalised after share prices rose from INR 5 to INR 9 in one day and balanced at INR 8 after the release of the official statement.

For telecom companies, the benefits from such deals are obvious. They garner funds to grow their war chest in a capital-intensive sector that has seen cutthroat competition since Reliance Jio’s entry in September 2016. This would be especially important for Vodafone Idea, which has been struggling with its cash reserves.

Acquisition of a controlling stake by an outsider or a sizable equity infusion by current promoters remains the need of the hour. Unless Google (or any other external investor) looks at acquiring a controlling stake in VIL, the chances of company’s longer-term survival beyond FY23 (when the moratorium on deferred spectrum debt ends) appear to be low.

As of today, Jio continues to lead the race since its strategic entry and aggressive penetration.

Focusing on critical issues

AGR Issue

The Supreme Court recently ordered telecom companies to pay up Rs 1.47 lakh crores to the government. With the telecom sector already plagued by falling revenues per user, reduced cash flows, a debt burden of more than Rs 7 lakh crore and an intense price war, many telecom operators are on the verge of bankruptcy and many have shut down their operations. Interestingly, the order which was issued recently includes dues on 15 players of which 3 are operational as of now. 

Let us first understand the AGR issue in detail - To run telecom business in the country, the telecom companies have to pay a certain percentage of their revenue to the government. The revenue stream of the companies includes sales from handsets, dividends, sales of old assets (land, buildings, towers etc.), investments, spectrum usage charges (SUCs) etc. The issue dates back to 2003 when many telecom companies went to court challenging DoT (Department of Telecommunications) definition of AGR. As per DoT, the charges paid to the government should include revenues generated from the company’s core and non-core telecom business. As per telecom players, they should ideally pay commission to the government on their core telecom business, but not on the revenue streams such as IUC (Interconnect Usage Charges), sales of assets, investment, interest on deposits etc. So, the companies’ under-reported revenues, also termed as AGR (Adjusted Gross Revenues).

The AGR consisted of license fees and SUC, of which license fee consisting of 8% of AGR and SUC consisting of 5% of AGR has to be paid to the government. In 2015, Telecom Disputes Settlement and Appellate Tribunal (TDSAT) excluded some of the non-core services from the purview of AGR. The DoT challenged the decision and moved to the Supreme Court. The Supreme Court in-turn ordered the telecom players to pay about Rs 1.47 lakh crores to the government within three months. The initially disputed amount of Rs 23000 crores on licensing charges snowballed into Rs 92000 crores (Rs 41000 crores interest, Rs 11000 crores penalty and Rs 17000 crores interest on penalty) in addition to combined SUC charges of Rs 42000 crores. The decision to pay the AGR dues was announced for 15 players, out of which 3 players (Bharti Airtel, Vodafone-Idea and Reliance Jio) are currently operational. Other players have either shut shop or are under the debt proceedings at NCLT (National Company Law Tribunal).

AGR dues: Who owes what?

The initial three-month deadline to clear the dues ended on 23rd January, 2020. Apart from Reliance Jio (Rs 41 crores only as AGR dues), no other telecom companies have cleared their dues. Here’s information related to AGR dues of some leading companies in the table as shown below:

After the top court verdict related to AGR, the telecom companies undertook an exercise for the self-assessment of their AGR dues which brought out sharp contrast to the one that DoT demanded i.e being pegged by more than half. The huge difference arising in estimates is a result of the penalties and interest calculations on it. The telcos appealed to the Supreme Court seeking a favourable condition and delivery schedule (roadmap) for the payment of AGR dues and the next hearing has been delayed till 21st July, 2020.

Effect on Debt/EBITDA ratio of Vodafone Idea and Bharti Airtel

Assumptions made ((BSNL being a mild player, the race is among the visible 3):

• Jio (currently debt-free), being a new player was having about Rs 41 crores AGR dues, thus wasn’t considered in this table.
• The other telecom operator’s such as Tata Teleservices, Reliance Communications and Aircel wasn’t taken into consideration since they are no more operational or have moved into NCLT debt proceedings.
• Meanwhile, since the data for Vodafone Idea FY19-20 hasn’t been made available, there have been certain assumptions made for the last quarter for FY 19-20 related to various financial parameters. 

For the FY 18-19, the Debt/EBITDA ratio of Bharti Airtel and VIL was 10 and 21.92 respectively. From the above table, we can observe that Bharti Airtel has been able to reduce its Debt/EBITDA ratio, while the same for Vodafone Idea has increased substantially. Thus, Vodafone Idea remains on a weak footing considering its financial health, continued subscriber losses and on-going integration hurdles.

Clubbed benefits and customised packages will decide who will remain ahead of the race.

Benefits in the baskets of both parties

Telecom party can

• Clear parts of its debt
• Clear part of AGR dues
• Induce (Addiction and inertia push) additional recharge for voracious OTT consumers.
• Gain technological advantage ( Google maps, navigation, GPS latching)
• Access purchase Level Insights - Pushing customised products, cross-selling local products with discounts for a particular mobile operator.
• Bring in Automation by lessening the burden of ground-level executives (Airtel in talks with PhonePe) (Idea-Vodafone tied up with Paytm). Most retailers in urban India are acquainted with UPI mode of payment. The stock recharge account is maintained between distributor and retailers by payment gateway without manual intervention. This curbs additional manpower. This is one advantage corona has taught to the telecom industry. Simultaneously curtailing the distributors as one can now manage a greater area. (As ratio depicts 60% recharges through online mode and 40% through traditional brick and motor stores).
• Help in poaching customer from competitors and retaining them.
• Reduce the traffic in call centres with introduction of Chatbots (more user- friendly if done with WhatsApp) which in turn reduces the floor area, eliminates redundant workforce and finally helps in cost reduction.

Tech party gets

• Larger User Base (new customers)
• Higher locking period per user
• Recurring benefits
• Customising focus with better gauge into past spending activities of each customer and thus increasing cross-selling conversion.
• Somewhat control over the data operator (tilting towards vertical integration)

Deals demystified

1. Facebook- Reliance Jio deal

 Having disrupted the Indian telecom industry by adopting a penetrative pricing strategy in 2016, Jio came up with the cheapest data plan and tariffs to its customers. This went a long way in making Jio the number one player in the Indian telecom sector acquiring almost 388 million subscribers. For acquiring about 28% of Indian customers, Jio had to borrow almost Rs. 1.5 lakh crores in order to build the infrastructure. With Facebook acquiring 9.99 % stake in Reliance Jio in a transaction worth $5.7 billion (Rs 43300 crores), the cash transaction was first in a series of investments that went a long way in making the parent company debt-free. On the other hand, Facebook gets access to a subscriber base of 388 million resulting in an acquisition cost of $14.69 per user.

2. Amazon- Airtel deal

The Amazon-Airtel talks are still in early-stage and the deal terms may change or an agreement may not be finalized. But if the deal is successful, it will be a win-win situation for both parties. The deal will allow the tech giant to expand its offering via smart speakers (voice-activated) and enable to boost its cloud business as access to Airtel vast telecom fibre network will help reduce costs. The deal is estimated to be of about $ 2 billion, thus giving Amazon access to a huge subscriber base of 411.12 million; resulting in an acquisition cost of $4.86 per user. Moreover, the amount generated in the deal ($2 billion or Rs 15104 crore) will enable Bharti Airtel to clear some portion of their AGR dues, while planning for developing their network, acquiring new customers and engaging in new deals.

3. Google-Vodafone Idea deal

With the Technology players showing interest in purchasing stakes in Telecom companies, there has been speculation that Google has approached Vodafone-Idea and the talks are on for acquiring a stake of about 5% in the cash strapped Vodafone Idea. The deal amount has been speculated at around $ 110 million (Rs 836.2 crore). Provided the deal takes place, Google would get access to 332.65 million users; resulting in an acquisition cost of $ 0.33 per user. From Vodafone’s perspective, the deal would generate Rs 836.2 crore, which won’t be enough for the debt-laden company to either deleverage its balance sheet or a clear substantial amount of AGR dues. Moreover, the Vodafone has been lagging behind its peers in parameters such as Average Revenue per User, Data usage per user and its absence in the retail sector might prove to be a hindrance in the deal getting finalized. But if the company manages to secure the deal, it might probably attract a lot of future investments from other players. Tough times ahead for Vodafone-Idea!

The table below shows the amount involved between Telecom players and Tech giants (Provided Airtel-Amazon & Vodafone Idea- Google takes place):

Soon, 5G spectrum (higher bandwidth, vast internet speed) will become a fight zone for Indian telcos.

Thus, better the deals, furious the race!

~ Written by Suraj Kumar Garnaik and Nishant Dash (29th June, 2020)