1

Economics Project

Telecom industry

Project by:

202 Akriti Agrawal | 215 Divya Bangera

220 Heemanish Midde | 235 Mohit Soni | 257 Vikrant Warudkar

April 2008

Xavier Institute of Management & Research, Mumbai

Mumbai University

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INDEX

INTRODUCTION 3

Background

First Phase - The Eighties

Second Phase - The Early Nineties

Third Phase - The late Nineties

FDI & MERGERS & ACQUISITIONS 6

Mergers & Acquisitions (M&A) In India

The Allure of M&A in Telecom

M&A – Case Studies

Due Diligence and Diagnosis

ANALYSIS 11

Growth of subscriber base

Change in average revenue per subscriber

Change in operator’s share

SERVICE TRENDS 18

Subscribers Base

Growth Rate

Company wise Market Share

Mobile [GSM & CDMA] Service trends

Usage Pattern

Revenue of Telecom Service Sector

Telecom sector share in GDP (%)

Spectrum issue

CONCLUSION 26

Major Players

Telecom Policy Environment

Major Market Trends

The Positive Impacts

The Pitfall

Mergers

New Circles

Constraints

RECOMMENDATIONS 30

Suggestions made by the Service Providers

Customer service Recommendations

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1

INTRODUCTION

1.1 Background

Indian telecommunications sector has undergone a major process of transformation through significant policy

reforms, particularly beginning with the announcement of NTP 1994. Historically, the process of expansion of

the network was rather slow, being owned and managed by the Government under the assumption that

telecommunications was a natural monopoly best run as a state-owned monopoly. By the early 1990s, this

concept of a natural monopoly was increasingly challenged in many countries by technological changes,

especially in the wireless field and by laudable success in several countries in lowering the cost of services for

common man. Policy makers in our country began process of reforms in the 1990s that led to gradual ushering

in competition for greater consumer welfare, particularly in terms of lowering of tariffs and improvement in

quality of service.

1.2 First Phase - The Eighties

Telecom reforms in India began in the 1980s with the launch of a “Mission Better Communication” program.

Private manufacturing of customer premise equipment was allowed in 1984 and the Center for Development

of Telematics (C-DOT) was established for the development of indigenous technologies. Private franchises

were freely given for public call offices (PCOs) that offered local, domestic and international calling services.

Two large corporate entities were spun off from the Department of Telecommunications, e.g. Mahanagar

Telephone Nigam Limited (MTNL) for Delhi and Mumbai and Videsh Sanchar Nigam Limited (VSNL) for all

international services. Significantly, this began the process of corporatisation of services that had hitherto

been under a government department. A high-powered Telecom Commission to direct telecommunications

policies was set up in 1989 with full powers of the Government.

1.3 Second Phase - The Early Nineties

The second phase of reform commenced with the general liberalization of the economy in the early 1990s and

announcement of a New Economic Policy (NEP)-1991. Telecom equipment manufacturing was de-licensed in

1991 and value-added services were declared open to the private sector in 1992, following which radio paging,

cellular mobile and other value added services were opened gradually to the private sector. National Telecom

Policy was announced in 1994, with a major thrust on universal service and qualitative improvement in

telecom services and also, opening of private sector participation in basic telephone services. An independent

statutory regulator was established in 1997. Progressively there was growth in private sector provision of

telecom services in the country.

1.4 Third Phase - The late Nineties

The most important landmark in telecom reforms, however, came with the New Telecom Policy 1999 (NTP-99)

which can be termed as the new, or third, generation of reforms. Its first qualitative difference was the

acceptance by the government that telecommunications was a sufficiently important for common man

whereas earlier it had been viewed as a “cash cow”. For example, the private sector had earlier been asked to

bid for licenses to provide telecom services through a sealed bid auction in which the bidder paid a fixed fee.

This proved unaffordable to the private sector owing to unrealistic calculations of the revenue potential of a

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license, resulting in a near zero rollout of lines. Rather than insisting on the prior fulfillment of its revenue

obligations, NTP-99 allowed private providers to “migrate” from fixed license fee regime to a revenue sharing

regime. The second qualitative difference was that the regulator was strengthened, domestic long distance

services were opened to the private sector, and the state-owned basic service provider under the Department

of Telecommunications was corporatised.

The guiding principles of the NTP-99 are as follows:

• Affordable and effective communications to citizens is the core of the vision and goal of telecom

policy

• Balance between the provision of universal service to all uncovered areas, including rural areas, and

provision of high level services capable of meeting the needs of the country’s economy

• Building a modern and efficient telecommunications infrastructure to meet the convergence of

telecom, IT and the media

• Conversion of PCOs into Public Teleinfo Centers having multimedia capability like ISDN services,

remote database access, government and community information systems etc.

• Transformation of the telecommunications sector to a greater competitive environment providing

equal opportunities and level playing field for all players

• Strengthening research and development efforts in the country

• Achieving efficiency and transparency in spectrum management

• Protecting the defense and security interests of the country

• Enabling Indian telecom companies to become truly global players.

Specific targets that NTP-99 seeks to achieve are:

• Make available telephone on demand by the year 2002 and sustain it thereafter so as to achieve a

teledensity of 7 by the year 2005 and 15 by the year 2010.

• Encourage development of telecom in rural areas making it more affordable by suitable tariff

structure and making rural communications mandatory for all fixed service providers

• Increase rural teledensity from the current level of 0.4% to 4 by the year 2010 and provide reliable

transmission media in all rural areas.

• Achieve telecom coverage of all villages in the country and provide reliable media to all exchanges by

the year 2002

• Provide Internet access to all district headquarters

• Provide high-speed data and multimedia capability using technologies including ISDN to all towns with

a population greater than two lakhs by the year 2002.

The key policy provisions of NTP 99 are:

• As mentioned earlier, a significant shift from the fixed license fee regime to a license fee regime based

on a revenue sharing mechanism

• Interconnectivity and sharing of infrastructure among various service providers within the same area

of operations is permitted; cellular licensees can carry intra-circle traffic

• Separation of the policy and licensing function of the DoT from the service provision function

• National long distance services sector to be opened to competition from January 1, 2000

• Service providers could carry both voice and data traffic.

NTP’99 is not just a policy document. It reflects a new philosophy, a new vision, a new direction and a new

commitment. The Government has undertaken its implementation with utmost earnestness, in letter and

spirit. The underlying theme of the reform process has been to usher in full competition through unrestricted

entry in almost all the service sectors. The migration package to revenue sharing in place of a fixed license fee

was a particularly progressive policy step which has led to a virtual ‘take off” in growth of the cellular and basic

service sectors. As a result of the reform process, National and International data connectivity has been

opened. Basically all telecom services have been opened up for private sector participation except

International voice telephony. This segment was scheduled to be reviewed by the year 2004, but now it has

been decided that state monopoly of Videsh Sanchar Nigam Limited (VSNL) over international telephony will

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be ended by 31.3.2002. Unrestricted entry has been allowed in Basic Services on revenue sharing basis.

Internet services have been opened up without any restriction on the number of entrants and without any

entry fee. Cellular service providers are permitted to carry their own long distance traffic within their service

area. There is no restriction on the number of GMPCS licenses but the gateways for the GMPCS are to be

located in India. National Frequency Allocation Plan (NFAP- 2000) has come into force on 1st January, 2000.

Indian Telegraph Act 1885 is being reviewed and a new Bill based on convergence is likely to be enacted soon.

With all these measures, which have come one after another in quick succession, the various telecom reforms

committed under NTP-99 are almost complete, some ahead of schedule.

Liberalization of telecom sector of the Indian economy aims at improving accessibility, availability, reliability

and connectivity through private sector participation and to bring about much needed improvement in the

Quality of Service (QOS). Through increased competition, the service providers are expected to become more

sensitive and responsive to the customers needs and choices and endeavor to give him greater satisfaction.

The Telecom Regulatory Authority of India has the mandate to safeguard the customer’s interests and to set

the standards of quality of service. The rapid technological advances which have taken place in the telecom

sector have brought about significant improvements in the quality of service provided to customers. With the

digitization of exchanges, and up gradation of external network, the fault rate has come down from 17.37 per

month per 100 stations in 1997-98 to 11.7% in 2000-01. The target is to bring it to single digits during the year

2001-02. About 95% of these faults are rectified within a week. The computerization of customer services has

also gone a long way in improving the quality of service. Some of the activities which have been computerized

are directory enquiry, fault repair services, waiting list, telephone revenue billing etc.

While the services have improved considerably, the customer is not always satisfied with the quality of service

he gets. The redressal of their grievances takes time. Awareness about consumer rights is also lacking. With

this in view, the 10th Five Year Plan intends to provide for customer care and services as one of its sector

objectives. All service providers have to adhere to the QOS parameters prescribed by the regulator, and extend

state-of-the-art services and technologies to the customers. The regulator is expected to create awareness

among customers about their rights and the obligations of the service providers. The regulator should have

adequate machinery to monitor and supervise the adherence by operators to the QOS parameters.

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2

FDI & MERGERS & ACQUISITIONS

Generally, the evaluation of investment by the private sector (including promoters, international strategic

partners, FIIs, lenders) is based on the following factors:

• Macro Economic Factors – e.g. GDP per capita

• Size of investment & investment threshold

• Scale of the markets

• Growth potential

• Bankable business models

• Other investment options in different regions

• State of the capital markets to provide access to capital & acquisition

• Currency

• Responsive regular & predictable regulatory environment

• The industry’s view is that international strategic investors have shown receding interest in India for

the following reasons

• Major strategic investors had stretched balance sheets due to home/region commitments

• Global meltdown of the telecom capital markets, not facilitating capital raising

• Low performance and execution track record compared to other countries despite 6 years of

liberalization

• Not perceiving a predictable regulatory environment too many fundamental matters referred to t

• he courts by different constituents – delaying the clarity required

• 49% cap on equity investments does not provide comfort on control commensurate with the

investment levels

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In addition, the global telecom crisis has led to many major telecom players facing problems in their home turf,

as a result of which they have taken to pulling out of foreign investments.

Some of the main reasons for the constraints/bottlenecks in attracting private investments were as follows:

• Policy uncertainty

• Dual role of licensor

• Delay and unclear role Regulator

• Pending issues around interconnectivity and Universal Service Obligation

• Unrealistic projections of the telecom market by players leading to high license feed bids by players

• High license fee, high capex led to high tariffs and therefore slow take off (especially Cellular)

• Viability of standalone basic services projects in question and thus their inability to achieve financial

closure

• High delays in Government approvals and clearances

• Relative inexperience of Indian FIIs in leading to projects on a cash flow basis

• SE Asian currency crisis of 1997-98 made foreign lenders minimize their exposure.

• Indian players do not by themselves have the capability to invest the large amounts needed for the

sector.

• NTP-99 offered keenly awaited relief in the form of shift to revenue sharing regime, extension of

license period to 20 years, introduction of greater degree of competition, introduction of fourth

cellular license and “limited’ mobility.

Post NTP-99, several issues yet remain to be sorted out:

• License agreements of several existing operators have not yet been amended to reflect migration to

NTP-99

• Non-resolution of interconnect agreement issues for GSM operators

• Establishment of equitable interconnect structure by TRAI for DLD/ILD sectors

• Spectrum availability and pricing issues

• Introduction of “limited” mobility

As far as the telecom manufacturing sector is concerned, investments in this area have varied between Rs.

10000cr to 11000cr during the last three years. Indigenously designed and manufactured products run the

handicap of bearing the burden of paying customs, excise and sales tax to the end customers. Imported goods

are generally available at half of the end customer price of indigenous manufacture. This financial handicap

can be mitigated by giving supported to Indian R&D, and encouraging the formation of joint ventures with

MNCs.

2.1 Mergers & Acquisitions (M&A) In India

India has become a hotbed of telecom mergers and acquisitions in the last decade. Foreign investors and

telecom majors look at India as one of the fastest growing telecom markets in the world. Sweeping reforms

introduced by successive Governments over the last decade have dramatically hanged the face of the

telecommunication industry. The mobile sector has achieved a teledensity of 14% by July 2006 which has been

aided by a bouquet of factors like aggressive foreign investment, regulatory support, lower tariffs and falling

network cost and handset prices. M&A have also been driven by the development of new telecommunication

technologies. The deregulation of the industry attempts telecom firms (telcos) to provide bundled products

and services, especially with the ongoing convergence of the telecom and cable industries. The acquisition of

additional products and services has thus become a profitable move for telecom providers.

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2.2 The Allure of M&A in Telecom

India’s telecom liberalization was noticed by Global investors in 1995 when the Government permitted entry

of foreign telecom operators through Joint venture route. Some of these global giants included Vodaphone,

AT&T, Hutchison Whampoa, Telekom Malaysia, and Telestra Australia. We now need to understand some of

the predominant objective of takeovers in telecom sector, which can be summarized as follows:

• Acquisition of licenses or geographical territory

• Acquisition of spectrum

• Acquisition of telecom infrastructure and network

• Acquisition of customer base to achieve an economic base

• Acquisition of brand value

• Higher operating profit (EBITDA) margin

• A combination of above

Market access: There has been almost saturation of demand in the home market of majority of foreign

investors where teledensity ranges from 40% to 100%. On the other hand, the teledensity in Indian market is

currently hovering at 14% like a low hanging fruit. The rural teledensity is almost negligible at about 3%. India’s

young and middle class market offers tremendous scope for market expansion and new business. For example,

even after 15 of economic reforms, sale of most consumer durable goods has not exceeded Rs. 60 million,

whereas telephone penetration has already crossed the Rs. 120 million mark and is all set to cross 150 million

mark by December 2006 and Rs. 250 million mark by 2010. This huge expansion is possible only with higher

focus on rural telephony, bridging the digital divide and higher allocation of network and funds to rural areas

which are not so rewarding in terms of ARPU.

Spectrum: Spectrum is turning out to be the biggest bottleneck for Indian mobile operators as they face

network problems, poor voice quality and call dropping. GSM operators initially get 4.4 MHz of spectrum while

CDMA operators get 2.5 MHz spectrum. In case of GSM operators with 10 lakh or more subscribers, they are

eligible for 10 MHz spectrum, while CDMA operators get 5 MHz for 10 lakh subscribers. Since CDMA

technology carries the voice in small packets, it can carry about five times more traffic and hence has a lower

spectrum allocation. However, as the number of mobile users is growing at an amazing rate of 4 million per

month), spectrum is falling short of requirements. Thus, the foreign investors prefer to acquire an existing

operation to ensure ready availability of spectrum, instead of applying for a new license where spectrum

allocation from DoT is really a challenging task. The Government is also taking effective steps to get approx 40

MHz spectrum vacated from Indian defense services which will give a fresh lease of life to spectrum starved

market. This will be a key driver for all future M&A in India.

Network roll out: Network roll out is a nightmare for telecom operators. It is more complex for a foreign

operator who may not be conversant with local conditions. Network roll out involves Right of way (ROW)

approvals, coordination with local government departments, acquiring BTS and BSC sites on rentals, acquiring

municipal and local approvals to set up tower and antenna, obtaining electrical connection for the sites, import

of equipment, installation of tower, equipment and shelter, SACFA and TEC approvals, integration of various

sites and final launch of services in a geographical area etc. Generally the time to roll out a network in a circle

takes minimum 6 months to 1-year time. The industry is also resorting to site and infrastructure sharing with

other operators to reduce its capital expenses and operating expenses cost and optimize profitability.

Human Resource: The dovetailing of human resources of the acquired company into the culture of parent

company has significant importance in any M&A deal and can even spoil a deal if not properly managed. It is

now an established principle that local leaders decide the success or failure of a cross boarder deal. The savvy

acquirer retains competent local leaders and dangles incentives and awards to align their personal interest

with that of the merged entity. Premium is placed for target companies which have strong management team

in place, lower manpower base and higher employee productivity. Some benchmarks used in this regard are –

Number of customers per employee, Revenue per employee per month etc. Majority of the telecom

companies resort to outsourcing of routine and non core activities and reduce number of “on roll employee”

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to attract better valuations. Hence, it is essential to make an assessment of the off roll and outsourced staff

involved in a telecom operation to ascertain the true operational efficiency and real manpower cost.

Brand value: In most cases, where the acquisition is for majority control, the foreign investor is likely to

introduce its own brand in India instead of local brand. Hence, generally no value is placed on brand related

expenditure amortized or any goodwill. However, where the investor takes minority stake and the brand

stabilized by the controlling local partners has become popular, brand value plays an important role in

valuation.

Better margin possibility: Across Asia-Pacific, be it China, Indonesia, Philippines, Thailand or Australia,

operating margins (EBITDA) average 40% - 60%, which are considerably higher than the mid-30% for Indian

telecom operators. The EBITDA margin of Bharti Airtel at 37% is the highest among all telecom operators

whereas for other operators it ranges from 11% to 25%. Thus, the scope for enhancing margins is fairly

banking and finance significant in Indian market since Government levies, license fees, etc. are likely to come

down to give further fillip to teledensity. The Government is also providing Universal Service Obligation (USO)

support to operators to expand their network in rural areas. The foreign investors continue to look at India to

spread their market. In the initial years, the numbers of operators in each circle were limited to four which was

a major entry barrier. Further the entry fee for acquiring a license was also high. But over the years, the DoT

has been consistently liberalizing entry norms and making market access easier for foreign investors with the

ultimate objective of benefiting consumers.

2.3 M&A – Case Studies

The first M&A deal in India was the sale of Mumbai license by Max group to Hutchison Whampoa group of

Hong Kong. The deal fetched over half a billion dollars for Max group and was touted as a major success for

Indian entrepreneur in telecom venture. This followed a series of M&A in subsequent years as stated

hereunder. Some of the other high profile deals were Vodaphone’s acquisition of 10% equity in Bharti in 2006

for US$ 1 billion, Maxis acquisition of Aircel at enterprise value of US$ 1 Billion, Birla Group’s acquisition of

Tata’s stake in Idea Cellular. Interestingly some of the high profile investors who had sold their stake around

year 2000 are now reentering India like Telekom Malaysia (exited India in 2000 from Kolkata license and

recently acquired 49% stake in Spice Telecom) and Vodafone (exited India in 2003 from RPG Cellular Chennai

and recently acquired stake in Bharti). The author also closely followed the sell-off, acquisition, resale and

reacquisition by Indian Promoters as a case study. In April 1998, Max group had sold its stake in Mumbai

license to Hutchison Telecom for US$ 560 million. Somewhere along the way Max group again picked up a

small stake of 3.16% in Hutch and resold it to Essar Group in October 2005 for US$ 147 million. Max India has

staged another comeback in Hutch by acquiring an 8.33% from Kotak Mahindra Bank for Rs. 1,019 crore in

2006. This second return to the telecom business reflects the buoyant conditions in telecom sector.

The table on the next page gives a bird’s eye view of major M&A deals in India and the key indicators like per

sub value, enterprise value etc. The valuation of state owned Bharat Sanchar Nigam Limited (BSNL) is

estimated to be US$ 30 Billion one of the highest in India. On a global scale, China Mobile has emerged as the

world’s most highly valued Telco with enterprise value of US$ 131.46 billion, followed by Vodaphone at US$

123.11 billion as on July 2006. From the table, readers can find that average valuation per subscriber ranges

from US$ 400 to US$ 550 which in turn is based on a variety of factors including Average ARPU, type of circle,

competition in the circle, Category of operator— whether only a Mobile service provider or an integrated

telecom player (like Bharti and Reliance) etc. Valuation is generally lower in case the acquirer takes a minority

stake as against controlling stake. Similarly, valuation also suffers if the target company is not listed and hence

has lower liquidity (as in case of Idea, Hutch etc). As a thumb rule, suggested by one economist, the differential

for non liquidity of non listed entity could be as high as 20% -25%. While most of the GSM operators resorted

to M&A in order to achieve growth, Reliance Infocomm did not go for inorganic route and instead rolled out a

green field project. This was also due to the fact that Reliance had adopted CDMA technology and was able to

roll out the network at much lower cost as compared to GSM network.

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2.4 Due Diligence and Diagnosis

The due diligence exercise gives the investor a deep insight into financial and operational issues of the target

company. If these issues are not properly analyzed, it can lead to serious integration issues, while by that time

the merchant bankers who have assisted in the acquisition may have left the scene. Some of these due

diligence areas are:

Strategic and Business due diligence: This includes careful analysis of current market share, planned market

share, quality of existing customer base, revenue mix, average ARPU in the service area, per minute revenue

(RPM), review of marketing strategy, customer care philosophy, ability of existing channel partners to promote

the services and withstand competition, reason for low performance of the target company, synergies which

are likely to be enjoyed on acquisition, likelihood of entry of new competitors in the licensed area, strategic

initiatives needed to establish market leadership etc.

Technological & Integration issues: The technical due diligence includes review of technical aspects, telecom

network technology adopted etc. This helps the investor to find out the quality of network assets, whether the

coverage is adequate or not, their maintenance and upgrade status, status of integration of various systems

like switch, non compatibility of existing network equipment if any with the current system of acquirer

resulting their obsolescence and write offs, value added services, billing system (Whether the billing system

can be interfaced with the system of acquirer, the upgrade status of billing system, does it interface with

financial systems), customer care system (database structure in customer care system, its interface with switch

for seamless flow of data on activation through front end, customer grievance resolution mechanism, ease of

customer interaction from call centre, reporting mechanism for pending customer queries and its escalation),

IT system, order fulfillment process, etc.

Financial & Commercial due diligence: The financial due diligence is likely to give deep insight into operations,

which otherwise would not be possible. Some key issues to be analyzed under this head would include:

accounting policies on intangibles and deferment, contingent liabilities disclosed and undisclosed, statutory

and workmen dues, finance cost and possibility of debt restructuring, capital structure, vendor and other dues

and reason for delayed or non payment, list of all contracts and agreements and the review of all rates and

terms, possibility of renegotiation of major commercial agreements and quantification of possible saving,

details of Banking and finance pending export obligations under EPCG rules, details of bank guarantees issued,

pending cost saving measures initiated in the company, internal control measures and processes, internal

audit reports, fixed assets verification reports, valuation reports if any, etc.

Secretarial & Legal due diligence: The acquirer also carries a detailed legal due diligence of the various

approvals obtained by the target company to understand possible instances of violations if any and the quality

of statutory compliances. This includes a review of statutory approvals required, approvals taken and their

renewal status, Minute books of AGM, EGM, Board and committee meetings, review of shareholders

agreement, Memorandum and Articles, statutory clearances for all investments made till date, review of all

major agreements (with lessons for BTS/BSC/MSC sites, collection and recovery agents, channel partner

agreement, roaming agreements, network services providers, VAS services, DoT license agreement), listing of

all legal cases filed by and against the company and current status, list of statutory compliances, list of all

statutory liabilities (status of payment of various dues like PF, ESI, license and spectrum charges, interconnect

payments, liquidated damages if any levied by licensor), list of all IPR rights, IPR violation issues etc).

Human Resource issues: The investor analyses the average salary of the employees, ratio of outsourced

employee to total employees, salary range vis a vis Industry trend and chances of salary increase to be made.

The investor also tries to find out whether any Golden Parachute has been issued to senior management which

has to be borne by the merged entity. The results of due diligence exercise help to unearth startling facts and

assist the investment banker to revise the valuation. From the acquirer’s perspective, some change

management problems can be avoided by solving them before the deal closes. For example, if the due

diligence reveals that the workforce of the target company is inflated, then he may insist for its rationalization

as a precondition to deal closure.

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3

ANALYSIS

Overall market for mobile services is estimated to be Rs.460 billion for 2007 and is expected to grow at 37%

per year in the mid-term

1) Growth of subscriber base

• Subscriber base is expected to grow from 165 million in March, 2007 to 344-441 million by March,

2010Growth will be driven by affordable calling plans and increasing disposable incomes

• Subscriber growth in low to medium income states will be key as these areas are currently under

penetrated

Historically, the subscriber base has grown at 60% to 90% - third party mid-range forecast for growth is 28% to

39% per annum

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Drivers:

• Increase in disposable incomes

• Greater network coverage

• Greater affordability

• Falling mobile phone prices (prices dropped from US$300 in 1995 to US$30 in 2007)

• Falling call charges (dropped from 40 US cents/min in 1995 to 2 US cents/min in 2007)

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Increasing purchasing power is the primary driver for this expected growth

Future subscriber growth is expected to come from low to medium income States

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2) Change in average revenue per subscriber

• Increase in pre-paid customers, concomitant with rural penetration, will continue to put pressure on

ARPUs

• RPM may decline further as the competition among the operators intensifies further

• Increase in CDMA penetration, which commands lower ARPU, will also decrease industry ARPU

• We expect the industry ARPU to decline by 8% per annum between 2007 and 2010

Historically industry ARPU has declined at double digit rates

Decline in ARPU has been driven by

(a) Increasing penetration of pre-paid customers as the operators expanded into rural areas

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(b) decline in tariffs as the competition among the operators intensified

(c) Increasing penetration of CDMA, which commands a lower ARPU

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We expect industry ARPU to decline by 8-9% per annum between 2007 and 2010

3) Change in operator’s share

• Market is characterized by price based competition

• CDMA being cheaper than GSM should continue to take share

• Market share shifts will also depend upon the expansion of coverage, which is contingent upon

obtaining licenses and spectrum

CDMA operators, i.e., Tata, have continued to take share from GSM operators due to their price advantage

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Tata is growing share in all segments – Hutch is losing share in the metro areas

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4

SERVICE TRENDS

4.1 Subscribers Base

The Mobile (GSM and CDMA) Industry has crossed the 90 million subscriber’s mark (GSM 69.2 million & CDMA

20.94 million) in the quarter ending 31.03.2006.

4.2 Addition in Subscribers Base

The subscriber’s base stood at 90.14 million as against 75.95 million for the quarter ending 31.12.2005. Around

14.19 million subscribers were added in this quarter.

4.3 Growth Rate

The growth rate for this quarter is 18.68% (18.29% in GSM and 20% in CDMA) as against 16.72% (15.03% in

GSM and 22.79% in CDMA) for the quarter ending December 2005. M/s Bharti remains the largest mobile

operator followed by M/s BSNL and M/s Reliance. Total number of mobile subscriber additions has been

highest in Category ‘A’ Circle (4.89 million), followed by Category ‘B’ Circle (4.88 million) & Metro with (2.67

million). Total Mobile subscriber base is highest in Delhi (8.07 million), followed by Mumbai (7.44million),

Andhra Pradesh (6.96 million) & Maharashtra (6.55 million).

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4.4 Company wise Market Share

a) The Subscriber Base of different mobile operators is given in Table 2.1. The top five Mobile operators on the

basis of market share are as under:

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4.5 Mobile [GSM & CDMA] Service trends

Summary findings for GSM Operators:

• Share of prepaid subscribers in total subscriber base is 80.54% at the end of Mar-06, as compared to

78.32% at the end of Dec 2005.

• Postpaid growth rate continue to decline in this quarter as well (from 7% to 4.43%).

• Growth rate of prepaid segment increased from 18% to 22% during the quarter.

• All India ARPU for the quarter ending March 2006 is Rs. 366 showing an increase of 1.2% from Rs.362

(Dec-05).

• ARPU of BSNL/MTNL increased by 10.5%, from Rs. 354 to Rs. 391.

• All India postpaid ARPU at Rs. 628 per month is about 2.1 times that of all India prepaid ARPU of Rs.

298 per month.

• Average MOU per subscriber per month for the quarter has increased from 393 to 395.

• On an average, a GSM subscriber makes 163 minutes of outgoing calls, sends 46 SMS and receives

incoming calls for 232 minutes in a month.

• While MOU per Subscriber per month has increased from 155 to 163 incoming MOU has declined

from 237 to 232.

• The ratio of incoming – outgoing traffic has shown a shift towards outgoing, from 61:39 to 59:41.

• Overall proportion of roaming revenue to the total revenue for GSM service providers is 14% as

against 15% in the previous quarter.

• The all India blended RPM (Revenue per Minute) for the quarter has marginally increased from Rs.

0.92 in Dec-05 to Rs. 0.93 in Mar-06.

• Proportion of the total outgoing GSM traffic (excl. ILD) terminating in Mobile network (CDMA + GSM)

has increased from 80% in Dec-05 to 82% in Mar- 06.

• On an average 84.99% of the total outgoing MOUs are local calls (terminating within the service area),

14.41% are NLD calls and the rest 0.59% are ILD calls.

• Mobile-to-Mobile Local (Intra-circle) traffic accounts for 84% of the Local (Intra-circle) traffic.

• On an average 48% of the total Intra-circle traffic terminates on network (Mobile).

• The trend indicates that the proportion of local calls (MOU) to total outgoing

• MOU is increasing and that of long distance is falling (See Table 10).

Summary findings for CDMA Operators:

• Share of prepaid subscribers in total subscriber base is 79% at the end of March 2006, as compared to

82% at the end of December 2005.

• All India ARPU for the quarter ending March 2006 is Rs. 256 i.e. same as in the quarter ending

(December 2005).

• All India postpaid ARPU, which is at Rs. 547 per month is about 2.9 times that of all India prepaid

ARPU of Rs. 184 per month.

• Average MOU per subscriber per month for the quarter is 550, showing an increase of 19% from 462

per month during the quarter ending Dec-2005.

• The ratio of incoming – outgoing traffic is reversed and is 48:52 in the quarter ending March 2006 as

against 56:44 in December quarter.

• The All India blended RPM (Revenue per Minute) is estimated to be Rs.0.47 in March 2006 as against

Rs.0.55 in the previous quarter implying a reduction of 14.5%.

• Mobile-to-Mobile Local (Intra-circle) traffic accounts for 81% of the Local (Intra-circle) traffic.

• On an average 53% of the Intra-circle traffic terminates within own network (Mobile).

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Usage Pattern

For GSM

• MOU per subscriber increased marginally from 393 in quarter ending Dec- 05 to 395 in quarter ending

Mar-06. While outgoing MOUs increased from 155 to 163, incoming MOUs declined from 237 to 232

(Annex 2.4).

• In Postpaid, total MOUs increased by 4.38% from 679 in Dec-05 to 709 in Mar-06. Corresponding

increase in prepaid has been 1.78%, from 392 to 312.

• The incoming-outgoing minute’s ratio is 59:41 as against 61:39 in the previous quarter. For postpaid,

ratio of incoming-outgoing minutes is 54:46 and for prepaid segment, it is 70:30.

• The outgoing MOU per subscriber has been highest in Circle C at 179 per month and highest incoming

MOU per subscriber has been in Metros at 251 per month. Lowest per subscriber usage for both

outgoing and incoming has been in Circle B, for outgoing (152 per month) and incoming (203 per

month).

• The number of SMS per subscriber has been highest in Circle A (61), and lowest in Circle C (22).

For CDMA

• Average MOU per subscriber per month for the quarter is 550, showing an increase of 19% from 462

per month during the quarter ending Dec-05.

• On an average a CDMA subscriber makes 284 minutes of outgoing calls, sends 11 SMS and receives

incoming calls for 266 minutes in a month.

• The ratio of incoming – outgoing traffic is 56:44 as compared to 48:52 in Dec- 05.

• Circle C at 518 per month has recorded Lowest Blended per subscriber usage for both outgoing and

incoming calls followed by Circle A at 428 per month.

• Circle A at 265 per month has recorded the Lowest per subscriber usage for Outgoing calls followed

by Metro at 280 per month (Annex 2.5).

• Circle A at 253 per month has recorded the Lowest per subscriber usage for Incoming calls followed

by Circle B at 258 per month (Annex 2.5.)

• The number of SMS has been highest in Metro (12 per subscriber month), and lowest in Circle C (6).

4.7 Revenue of Telecom Service Sector

• The total revenue of telecom service sector increased by over 21% during the financial year 2005-06.

The total revenue, which was Rs 71673.7 crore in 2004-05, increased to Rs 86719.55 crore in 2005-06.

The revenue contribution from the public sector telecom companies was 52% and that from private

sector companies was 40% the in 2005-06.

• The total revenue of the public sector for 2005-06 was Rs 45232.98 against Rs 42174.20 cores for

2004-05. The revenues for the public sector companies increased by over 7%.

• The total revenue contribution from the private sector for 2005-06 was Rs 41486.57 crore against Rs

29499.53 for 2004-05. A very healthy growth of over 41% was registered.

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4.8 Telecom sector share in GDP (%)

The Indian Telecom Service industry is contributing 2.71% to the total GDP. The year-wise telecom service

sector share in GDP is given below

4.9 Spectrum issue

So far, no operator has been allocated spectrum beyond 10 MHz, or the 4th carrier, confirms a top official

from the Wireless Planning and Co-ordination Committee (WPCC) of the Department of Telecommunications

(DoT). Cellular operators have been ramping up aggressively, collectively adding as many as 5 million

subscribers a month. Spectrum, especially in the metro circles and capital cities of some circles such as Andhra

Pradesh and Karnataka, is now under pressure. According to figures published by the respective industry

associations, both Bharti Televentures and Reliance Infocomm have crossed the 21-lakh subscriber mark,

becoming eligible for additional spectrum in Delhi. However, a number of issues remain unresolved.

One, whether CDMA and GSM operators should be treated differently when allocating spectrum. Under the

current policy, CDMA, being the more efficient technology, gets only 1.25 MHz for every 2.5 MHz allocated to

23

GSM players. For instance, under the additional spectrum allocation guidelines announced in March, eligibility

for GSM operators has gone up from 10 MHz to 515 MHz. For CDMA operators, on the other hand, it has gone

up from 5 MHz to 7.5 MHz. This has been questioned by industrialist Ratan Tata and the CDMA technology

lobby group, CDMA Development Group (CDG). Mr. Tata has even suggested pricing spectrum both 3G and the

additional allocation for 2G and 2.5 G services – an advice that has attracted flak from GSM operators.

On the other hand, Reliance Infocomm, whose CDMA subscriber base is a close second to Bharti's GSM

subscriber base, has questioned the basis on which DoT has arrived at the minimum subscriber numbers for

additional spectrum allocation, stating that it is very high. Although WPCC officials claim the controversy

surrounding the spectrum allocation has not stalled the process, there is very little clarity on whether any

operator has benefited from the additional spectrum allocation policy so far. Both the operators and the

regulator are unwilling to comment on it. In the light of the current controversy, the government has now

asked the Trai to come out with a fresh set of recommendations for 3G spectrum allocation, bypassing the

earlier ones. It's yet to be seen if these will set the stage for 3G services in India or get grounded in controversy

yet again.

It is laudable that the regulator has taken the cue from the government and worked out the spectrum

allocation policy to realize the mobile subscriber base target of 200 million by 2007; in effect, the policy aims

to double the monthly mobile subscriber addition from two million now. To achieve this objective, it has

suggested a sharp increase in the allocation of additional spectrum on a need-based basis for both CDMA and

GSM operators, especially in the metros (Mumbai and Delhi) for offering the existing 2G/2.5 services. No

quarrels with this proposal so far.

The objections to TRAI's recommendations, however, lie in the manner in which it has proposed the allocation

of additional spectrum in the existing frequency bands for the CDMA and GSM operators and new spectrum in

the 2,000 MHz band (a 3G band) intended as an extension for 2G services. There are three problem areas in

the proposals:

No level playing field: As the allocated spectrum for CDMA operators in their existing band is short of the total

requirement, the Government should allocate additional spectrum (say, in the four metros of Delhi, Mumbai,

Chennai and Kolkata) within one month of accepting these recommendations. Acknowledging that GSM

operators were also facing a severe shortage of spectrum, especially in the metros, TRAI has recommended

that additional spectrum be allocated to these players also. But since there could be problems in the Defense

forces vacating the spectrum for immediate use, TRAI says the GSM operators will get additional spectrum in

phases, through December 2006.

Implications and problems: The TRAI proposals have a two-fold implication on the competitive position in the

mobile sector. One, the straightforward implication that if CDMA operators are getting the spectrum within a

month and GSM operators in a staggered fashion till December 2006, the former get an edge in the same circle

in which both offer services. Two, if CDMA operators get the spectrum ahead of GSM operators, they will be

able to rollout 3G services at a minimal investment in technology (upgrade their existing CDMA-20001X system

to CDMA-2000 EV-DO). This will give them a head-start over their GSM peers as the latter will be able to start

3G services only after they get spectrum in the 2GHz band.

TRAI brushes aside the argument of the advantage that CDMA operators get, simply by saying that it is not in

the business of comparing and evaluating the efficiency of technologies. The implication is that market

principles will decide how spectrum gets allocated between different operators.

But just a few months ago, while finalizing the Unified Licensing Policy for all telecom services (including

national and international long distance), TRAI had made an eloquent case for creating a "level playing field"

among the different telecom segments and leaving no operator category in a "worse off" than before. This was

a powerful argument that TRAI had used to justify an entry fee of Rs 107 crore for national long distance

services for new operators; else, it said, the business case of the existing operators would be affected. Does a

similar treatment of "no worse off" situation not apply to GSM operator's vis-à-vis CDMA players in the case of

spectrum?

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Technology neutrality: In the guise of encouraging `technology neutrality', TRAI has recommended that CDMA

operators be allocated spectrum using the same subscriber addition criteria used for GSM operators thus far.

In effect, this is likely to help CDMA operators get more spectrums on a comparable scale to GSM operators.

Implications and problems: The implications of a `technology neutral' policy in this case are quite serious.

TRAI, and the Government if it accepts these recommendations in their current form, would be admitting that

they were wrong in presuming that CDMA was spectrally more efficient that GSM. At the height of the limited

mobility controversy in mid-2003, the Association of Basic Telephony Operators (ABTO) had stated in written

submissions to the court that CDMA is 5.31 times as efficient as GSM and, in effect, 5MHz of CDMA spectrum

is equal to 25 MHz of GSM. In retrospect, was the due diligence done while migrating the basic operators

(offering CDMA technology) to the unified regime on a wrong premise?

No entry fee for 3G services: To neutralize the impact of these changes on the GSM operators, TRAI has

recommended that 2,000 MHz (or 2GHz) spectrum be opened up for 3G services to the extent that these can

help reach the mobile subscriber base target by 2007. Using this, according to TRAI, GSM operators, primarily

will be able to move some high-end 2G subscribers to the 3G band and take on some marginal subscribers for

2G services. To top it all, the regulator has prescribed that spectrum in the new band be given free of entry

fee, but with a higher revenue share component. The reason for zero entry fee is to ensure that user tariffs do

not shoot up, especially in a price sensitive market like India.

Implications and problems: It is quite well-established that 3G is a distinct class of service, with its own

licensing terms and conditions before spectrum is released for use. Since 3G can offer high bandwidth,

multimedia-rich applications, such as video streaming of news or movies, the usage of this service is

completely different. As a premium priced service, the spectrum bands for 3G have also been de-linked from

2G services by bodies such as the ITU (International Telecommunications Union) interacting with policy-makers

worldwide.

TRAI's contention that 3G is being offered in India as an extension to 2G services, on account of paucity of

spectrum in the existing 2G bands is a rather hollow argument. Moreover, there is no justification for offering

3G spectrums at zero entry fee and charge just a fixed revenue share, without any bidding process, for three

key reasons. One, by offering it free of entry fee, TRAI will be setting a precedent. Beyond 2007, even if the

regulator chooses to apply a different bidding principle, it will not be acceptable and equitable for all players.

The same problems that have dogged 2G services will haunt 3G services also.

Two, TRAI has steered clear of entry fee and spectrum auction because that could raise the tariffs for

consumers at a time when mobile telephony growth is of paramount importance. The government levies, in

any case, account for over 20 per cent of the adjusted gross revenues for the telecom services sector; and by

charging a fixed revenue share; the Government will be able to recover its share of revenues in line with the

growth of 3G services. But each one of these arguments is contestable.

The rise in 3G tariffs can be brought in line by TRAI if it imposes a price cap on these services till such time the

market forces are strong enough to take over. The Government levies may be high now, but this amount that

TRAI can raise through 3G-entry fee or offering 3G spectrums to the highest bidder can be used meaningfully.

If one goes by Mr. Ratan Tata's view of charging Rs 1,500 crore as entry fee for an operator on an all-India

basis, the Government can raise Rs 9,000 crore from six top operators. This amount can be used, for instance,

to finance the Defense establishment to vacate the much-needed spectrum in the 2G band as early as possible.

Finally, apart from the entry fee, 3G spectrum should also be auctioned only to the highest bidder, since

spectrum is a scarce commodity and there should be a disincentive for its inefficient use or hoarding by certain

operators.

Since release of 3G spectrum to one operator can give a competitive edge in terms of type of services offered,

TRAI's has recommended that whenever 3G spectrum is allocated, it should be to all the operators who need

it. But this will only encourage hoarding of spectrum by players, notwithstanding the rollout obligations

prescribed by TRAI.

25

Besides this, the fears expressed by representatives of the Cellular Operators Association of India (COAI) that

an entry fee or spectrum auctions will automatically lead to a delay in launch and make it expensive for

consumers are totally unfounded. It is important to keep in mind the fact that at the height of the limited

mobility controversy, in October 2003, the COAI had dashed off a letter to the Group of Ministers (GoM) on

Telecom that if basic service providers were allowed a unified license (for basic and mobile), it would lead to

gifting a free 3G license to them.

According to a COAI analysis of the value of 3G licenses auctioned internationally (across Europe, North

America and the Asia-Pacific), the average value of the 3G license worked out to over Rs 30,000 crore. The

Government cannot lose sight of this element. TRAI has also indicated, in its recommendations, that 3G

spectrum auctions were a failure in Europe and something that can be avoided in India.

But it must be remembered that in India the entry fee for the fourth cellular operator license in 2001 was

decided through a multi-layer bidding process, which went through without a hitch. And based on the

experience and understanding of the auction model in the last few years (especially after the failure in

Europe), several pitfalls in auction design and pricing can be avoided.

These three problem areas will have to be addressed by the Government before the spectrum policy

recommendations are accepted and come into force. Otherwise, each one of these aspects can be a ground for

dispute among operators that may be resolved only in the courts.

The US-based Qualcomm has said that Code Division Multiple Access (CDMA)-based operators, including

Reliance Infocomm and Tata Teleservices, have put on hold their plans to roll out high speed wireless Internet

services due to a crunch in spectrum availability.

The company, which is responsible for developing CDMA technology globally, said that the spectrum policy

being formulated by the telecom regulator should be "technology-agnostic" and allow both CDMA and Global

System for Mobile Communications (GSM) operators to use the 1,900 MHz band.

GSM operators have objected to the allocation of the 1,900 MHz frequency band to CDMA operators on

grounds it would create interference with their network. CDMA operators want a share saying that the

equipment is not compatible with any other frequency.

Globally, CDMA operators use the combination of the 800 MHz and 1,900 MHz frequency. If India decides to

move away from this trend, it will have ramifications on international roaming services.

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5

CONCLUSION

The Indian Telecommunications network with 110.01 million connections is the fifth largest in the world and

the second largest among the emerging economies of Asia. Today, it is the fastest growing market in the world

and represents unique opportunities for U.S. companies in the stagnant global scenario. The total subscriber

base, which has grown by 40% in 2005, is expected to reach 250 million in 2007. According to Broadband

Policy 2004, Government of India aims at 9 million broadband connections and 18 million internet connections

by 2007. The wireless subscriber base has jumped from 33.69 million in 2004 to 62.57 million in FY2004- 2005.

In the last 3 years, two out of every three new telephone subscribers were wireless subscribers. Consequently,

wireless now accounts for 54.6% of the total telephone subscriber base, as compared to only 40% in 2003.

Wireless subscriber growth is expected to bypass 2.5 million new subscribers per month by 2007. The wireless

technologies currently in use are Global System for Mobile Communications (GSM) and Code Division Multiple

Access (CDMA). There are primarily 9 GSM and 5 CDMA operators providing mobile services in 19 telecom

circles and 4 metro cities, covering 2000 towns across the country.

5.1 Major Players

There are three types of players in telecom services:

• State owned companies (BSNL and MTNL)

• Private Indian owned companies (Reliance Infocomm, Tata Teleservices,)

• Foreign invested companies (Hutchison-Essar, Bharti Tele-Ventures, Escotel, Idea Cellular, BPL Mobile,

Spice Communications)

5.2 Telecom Policy Environment

Indian telecommunications today benefits from among the most enlightened regulation in the region, and

arguably in the world. The sector, sometimes considered the “poster-boy for economic reforms,” has been

among the chief beneficiaries of the post-1991 liberalization.

Despite several hiccups along the way, the Telecom Regulatory Authority of India (TRAI), the independent

regulator, has earned a reputation for transparency and competence. With the recent resolution of a major

dispute between cellular and fixed operators (see below), Indian telecommunications, already among the most

competitive markets in the world, appears set to continue growing rapidly.

Rajiv Gandhi proclaimed his intention of “leading India into the 21st

century,” and carved the Department of

Telecommunications (DOT) out of the Department of Posts and Telegraph. Succumbing to union pressure. In a

compromise, Gandhi created two DOT-owned corporations:

Mahanagar Telephone Nigam Limited (MTNL), to serve Delhi and Bombay, and Videsh Sanchar Nigam Limited

(VSNL), to operate international telecom services. He also introduced private capital into the manufacturing of

telecommunications equipment, which had previously been a DOT monopoly.

In 1994, the government released its National Telecommunications Policy (NTP-94), which allowed private

fixed operators to take part in the Indian market for the first time (cellular operators had been allowed into

the four largest metropolitan centers in 1992). Under the government’s new policy, India was divided into 20

circles roughly corresponding to state boundaries, each of which would contain two fixed operators (including

the incumbent), and two mobile operators.

27

Competition in India’s telecom sector did not really become a reality until 1999. At that time the government’s

New Telecommunications Policy (NTP-99) switched from a fixed fee license to a revenue sharing regime of

approximately 15%. This figure has subsequently been lowered (to 10%-12%), and is expected to be reduced

even further over the coming years. Still, India continues to derive substantial revenue from license fees ($800

million in 2001-2002)

Another, perhaps even more significant, problem with India’s initial attempts to introduce competition was the

lack of regulatory clarity. Private operators complained that the licensor – the DOT – was also the incumbent

operator. The many stringent conditions attached to licenses were thus seen by many as the DOT’s attempt to

limit competition. It was in response to such concerns that the government in 1997 set up the Telecom

Regulatory Authority of India (TRAI), the nation’s first independent telecom regulator. Over the years, TRAI has

earned a growing reputation for independence, transparency and an increasing level of competence.

It had to contend with political interference, the incumbent’s many challenges to its authority, and accusations

of ineptitude by private players. Throughout the late 1990s, TRAI’s authority was steadily whittled away in a

number of cases, when the courts repeatedly held that regulatory power lay with the central government. It

was not until 2000, with the passing of the TRAI Amendment Act, that the regulatory body really came into its

own. Coming just a year after NTP-99, the act marks something of a watershed moment in the history of India

telecom liberalization. It set the stage for several key events that have enabled the vigorous competition

witnessed today. Some of these events include:

• The corporatisation of the DOT and the creation of a new state-owned telecom company, Bharat

Sanchar Nigam Ltd (BSNL), in 2000;

• The opening up of India’s internal long-distance market in 2000, and the subsequent drop in long-

distance rates as part of TRAI’s tariff rebalancing exercise;

• The termination of VSNL’s monopoly over international traffic in 2002, and the partial privatization of

the company that same year, with the Tata group assuming a 25% stake and management control;

• The gradual easing of the original duopoly licensing policy, allowing a greater number of operators in

each circle;

• The legalization, in 2002, of IP telephony (a move that many believe was held up due to lobbying by

VSNL, which feared the consequences on its international monopoly); The introduction in 2003 of a

Calling Party Pays (CPP) system for cell phones, despite considerable opposition (including litigation) by

fixed operators;

• And, more generally, the commencement of more stringent inter-connection regulation by TRAI, which

has moved from an inter-operator “negotiations-based” approach (often used by the stronger operator

to negotiate ad infinitum) to a more rules-based approach.

India has had 2 suffer from its fair share of regulatory hiccups:

• Operators (mobile players in particular) still complain about the difficulties of gaining access to the

incumbent’s (BSNL) network.

• The government’s insistence on capping FDI in the telecom sector to 49% (a move made in the name of

national security) limits capital availability and thus network rollout.

• ISPs, who were allowed into the market under a liberal licensing regime in 1998, continue to

hemorrhage money, and have been pleading with the government for various forms of relief, including

the provision of un-metered phone numbers for Internet access.

• The growth of Internet in the country has recently stalled, with only 8 million users.

• Broadband penetration too, remains tiny.

Most intractable regulatory problem has been the drawn-out battle over “limited mobility” telephony. This

imbroglio began in 1999, when MTNL sought permission from TRAI to provide CDMA-based WLL services with

“limited mobility.” GSM cellular operators were soon up in arms, arguing that “limited mobility” was simply a

backdoor entry into their business.

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Moreover, fixed operators had paid lower license and spectrum fees than cellular ones; were not required to

pay access charges for cell-to-fixed calls (unlike their cellular counterparts); and, amidst accusations of cross-

subsidization, were charging considerably lower rates than the cellular operators.

The resulting conflict dragged on in the courts and in the political arena for years. Fixed operators including

new entrants Reliance and Tata Teleservices claimed that they were being prevented from providing a cheap

service that would drive penetration and be of benefit to the “common man”; cellular players bitterly opposed

what they perceived as unequal regulatory treatment for two kinds of operators who were in fact offering the

same service. The real victim, of course, was the Indian telecommunications market, which suffered from

investor perceptions of regulatory confusion and operator in-fighting.

It was not until late 2003 that the issue was finally resolved, under considerable government pressure, when

cellular operators agreed to withdraw their many cases against the fixed-line operators. Fixed operators would

in effect be allowed to enter the mobile business; in return, the government granted cellular players several

concessions, including lower revenue-share arrangements estimated to total over $210 million. Perhaps most

notably, the government announced its intention to adopt a “unified access licensing” regime, which would in

the future provide a single, technology-neutral license for fixed and cellular operators.

5.3 Major Market Trends

Higher acceptance for Wireless Services

Indian customers are embracing mobile technology in a big way (an average of four million subscribers added

every month for the past six months itself). They prefer wireless services compared to wire-line services, which

is evident from the fact that while the wireless subscriber base has increased at 75 percent CAGR from 2001 to

2006, the wire-line subscriber base growth rate is negligible during the same period.

In fact, many customers are returning their wire-line phones to their service providers as mobile provides a

more attractive and competitive solution. The main drivers for this trend are quick service delivery for mobile

connections, affordable pricing plans in the form of pre-paid cards and increased purchasing power among the

18 to 40 years age group as well as sizeable middle class – a prime market for this service.

The Positive Impacts:

• 18 percent of mobile users are willing to change their handsets every year to newer models with more

features, which is good news for the handset vendors.

• The operators have only limited options to generate additional revenues through value-added services

from wire-line services; the mobile operators have numerous options to generate non-voice revenues

from their customers.

• There exists great opportunity for content developers to develop applications suitable for mobile users

like mobile gaming, location based services etc.

The Pitfall

There is an increased threat of virus – spread through mobile data connections and Bluetooth technology – in

mobile phones, making them unusable at times. This is good news for anti-virus solution providers, who will

gain from this trend.

Mergers

Demand for new spectrum as the industry grows and the fact the spectrum allocation in done on the basis of

number of subscribers will force companies to merge so as to claim large number of subscribers to gain more

spectrum as a precursor to the launch of larger and expanded services. However it must also be noted that this

may very well never happen on account of low telecom penetration.

29

New Circles

There is a significant number of tier-2 and tier 3 cities that can accommodate more players we expect

aggressive response by the companies to such opportunities as and when they are created.

Constraints

• Slow pace of the reform process.

• It would be difficult to make in-roads into the semi-rural and rural areas because of the lack of

infrastructure. The service providers have to incur a huge initial fixed cost to make inroads into this

market. Achieving break-even under these circumstances may prove to be difficult.

• The sector requires players with huge financial resources due to the above mentioned constraint.

Upfront entry fees and bank guarantees represent a sizeable share of initial investments. While the

criteria are important, it tends to support the existing big and older players. Financing these

requirements require a little more liberal approach from the policy side.

• Problem of limited spectrum availability and the issue of interconnection charges between the private

and state operators.

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6

Recommendations

6.1 Suggestions made by the Service Providers:

• It was emphasized that uncertainties in policy must be done away with.

• A fair and transparent Spectrum Policy should be ensured by the Government.

• The restrictions imposed on potential players in the market for Domestic Long Distance services should

be removed.

• Opening of Internet telephony, deploying VOIP to provide phones for faster rollout should be

encouraged.

• Interconnect Regime to be fair & non-discriminatory and should permit direct inter-circle connectivity

between service providers as also direct connectivity to international gateways of ILDO.

• Equal Access should be ensured to provide support for the achievement of Universal Service, an

appropriate financing mechanism be evolved.

• Provision of right of way could be given by State Governments on simple commercial terms without any

special conditions

• Taxation Issues: Tax laws should be amended to permit efficiency with respect to consolidation and re

structuring of the business of telecom operators. Foreign Investment Thresholds: While there is a need

to keep a sectoral cap of 49%, due to the large fund requirements, GOI should consider at least keeping

the informed FII investments outside this cap. FII investors are capital market investors and not strategic

investors and have capacity to provide large funds and provide market capitalization momentum.

• The five year tax holiday under section 80I A of the Income Tax Act to telecommunications service

companies who had commenced operations on or before 31st March 2000 (extended up to March,

2003 in the 2001-02 Union Budget), should be extended also to the MTNL and the BSNL, to provide

them a level playing field with the private sector.

• The subscriptions made to finance telecommunications services through the bonds and debentures of

the companies should qualify for SLR requirements of banks. The bonds issued by the telecom

companies may qualify for deduction under Section 88 of the Income Tax Act as applicable in the case of

the bonds issued by the IDBI and ICICI

Although numerous initiatives taken by Government by way of policy liberalization and fiscal measures have

greatly improved the investment environment, the actual investment on the ground has not been as per the

expectations. In the light of the 36 path- breaking measures taken to implement NTP ’99, attracting investment

for meeting the 10th Plan targets may not pose a major problem. The feedback from the financial institutions

has also been encouraging. Investors are also showing interest in the sector judging from the loan applications

received by the banks and financial institutions. As we have seen, in order to achieve a tele-density of 11.5 by

2007 and a rural tele-density of 3 by 2007, an amount of Rs.46, 291 crore would be needed by way of private

sector investment to supplement the Public Sector investment by BSNL and MTNL. This investment excludes

investment for National Long Distance and International Long Distance etc. With the opening of the basic

services in an unlimited manner and the induction of the fourth Cellular operator, the number of major players

in the Indian telecom scene has increased. There has been some significant M&A activity in the Indian Telecom

sector to bring about economically viable units with proper synergy. This trend is likely to continue. With the

Financial Institutions indicating their willingness to fund this sector there is not likely to be any difficult in

raising the resources for the private sector as mentioned above. The industry representatives pointed out

many constraints facing the operators including policy uncertainties in many areas. In fact, there has not been

much cohesion in the suggestions given by the various associations and many of the suggestions made are

contradictory. It must be recognized that unless the industry accepts the decisions of the Government as final

and get on with the job, the uncertainties will persist. On almost every issue some association or the other has

31

been approaching TRAI, TDSAT, High Courts etc. In the process such litigation resulted in negating the progress

achieved due to liberalization of the telecom sector. If all the industry associations could form an apex body for

the telecom service providers, there is a possibility of some reduction in litigation. The “policy uncertainties”

may then give way to policy certainties.

However, in the light of the main constraints, to accelerate growth of private investment in the Telecom

sector, the following course of action is suggested:

1. Need to evolve an appropriate Interconnect arrangement:

The foremost concern is regarding the Interconnect regime. Interconnect issues have always posed

problems in every country that has opened up the Telecom sector. The regulator in India is fully seized of

this matter. It is up to the operators to arrive at a satisfactory bilateral solution failing which the regulator

will step in to resolve the interconnect issues. What has been stalling the progress in this sphere is the

mindset of the incumbent operator and the new operators. Therefore, it is important for all the operators to

get out of their mindsets and strive to arrive at a solution which will be a win-win position for all

stakeholders. Once the issues are narrowed down, it should be possible for the regulator to find a solution in

the interest of the consumers.

2. Smooth Migration to the convergence regime:

Uncertainty in the regulatory regime is another important issue. Although things have improved

substantially after reconstitution of the TRAI, what is causing concern is the kind of regime that would

replace TRAI when the Convergence Bill becomes an Act. Industry is apprehending that they may have to

start all over again with the new super Regulator getting to revalidate the licenses issued by the DOT. They

are not clear about the new terms and conditions that may be imposed on them. There needs to be clarity

on this issue. It is necessary to clarify to all the prospective investors that the migration to the Convergence

regime would be seamless.

3. Expeditious settlement of disputes:

There have been delays in the dispute settlement mechanism. It is but natural that disputes will arise at least

in the initial few years of opening up of a sector from predominantly Government control to substantially

private control. However, the dispute settlement mechanism should be able to address these issues in a

speedy manner and clear the air of uncertainty.

4. Implement uniform guidelines for grant of Right of Way:

Faster Right of Way (ROW) permissions with long-term guarantees are essential for proliferation of broad-

band optic fiber and copper cable networks in the country. Since telecom is crucial infrastructure, the

Government had constituted a committee under the chairmanship of Secretary, DOT, with Secretary, IT,

representatives of 4 states (Andhra Pradesh, Maharashtra, Gujarat, and Karnataka), Ministry of Surface

Transport, and Ministry of Forest & Environment, as members. The committee has recommended model

guidelines for adoption of a uniform policy with “single window” concept, by the State Governments as well

as various agencies in granting ROW clearances. These model guidelines, if adopted by the State

Governments, will have long-term impact on speedy execution of projects.

5. Early positioning of USO Fund:

There is no clarity about the Universal Service Obligation Fund. Operators are not aware of the nature of the

Fund, the levy for the Fund, or what they could expect from the Fund to help them spread into the remote

areas. The TRAI is already engaged in drawing up a suitable mechanism meeting the requirements of the

USO. However, it is necessary to reach some finality on this issue at an early date.

6. Utilize telecom license fees for investment in rural telephony:

The total investment requirement for rural telephony envisaged in the 10th Plan would far exceed the

amount of collections that would be possible in the USO Fund, which is to be built up through a small

percentage levy on the revenues of the telecom operators. Therefore, it is felt that the Government should

plough back the entire telecom sector license fee and service tax collection, for the development of rural

telephony, through the USO fund. It is anticipated that the amount of annual internal resource generation

for companies in the telecom sector would fall far short of the total investment requirements during the

Plan. The gap will have to be filled up through market borrowing, budgetary support etc. If at least license

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fee and service tax are ploughed back into the sector that would barely be enough to meet the investment

requirement of the rural telecom sector.

7. Decide early on the CPP regime:

The Calling Party Pays regime, by making incoming calls free, will make the cellular service more affordable

and promote rapid growth in the cellular segment. On the contrary, the regime will require larger

investment by basic service providers without any benefit to them. Besides, their subscribers would have to

pay higher charges. Balancing these two considerations, an early final decision on this issue needs to be

taken to clear the uncertainty.

8. Extend Tax-Holiday Benefits to PSUs:

The five-year tax holiday under section 80I A of the Income Tax Act to telecommunications service

companies who had commenced operations on or before 31st March 2000 (extended up to March, 2003 in

the 2001-02 Union Budget) may be extended also to the MTNL and the BSNL. This measure is considered

essential as about 70% of the new investment during the X Plan is expected to be made by the public sector.

9. Provide the status of “Industrial Undertaking” to the telecom industry in the Income Tax Act:

Considerable benefits have been given to the telecom sector on the taxation angle in the past. The

infrastructure status of the industry has been continued for 5 more years mostly covering the next Plan.

However, in the era of mergers and acquisitions, Section 72(a) of the Income Tax Act works as a dampener

as it does not permit carry forward of business losses and accumulated depreciation of the amalgamating

company against the profits of the amalgamated company. The Telecom sector industry being a service

industry is not entitled to benefit under this Section. This could be set right by including the telecom industry

within the definition of industrial undertaking in the Income Tax Act.

10. Incentives for faster roll out in the rural areas:

Roll-out of network by private operators in the rural areas has so far not been at all satisfactory, despite the

Government’s having laid down certain minimum roll-out obligations in the license conditions for telecom

service providers, in respect of rural DELs and VPTs. It has been seen in the past that the private operators

were prepared to pay penalty for non-fulfillment of rural obligations rather than making investments that

they perceive will be unprofitable. In the licenses issued recently to the basic service operators, it has been

stipulated that the point of presence (POP) has to be established by the operators in equal proportion in

rural, semi-urban and urban Short Distance Charging Areas (SDCAs). It was noted that out of 2648 SDCAs in

the country, only 487 SDCAs are identified as purely rural SDCAs. However, in rural areas, the revenue per

DEL is not adequate to meet maintenance and operation costs, leave aside generate surpluses. The

estimated investment requirement during the Tenth Plan for rural areas is Rs 41,520 crore. Therefore, to

translate the license conditions into rapid expansion of network in rural areas, there is a need to give special

incentives for investment and faster roll out in such areas. The following suggestions are offered:

• The license fee in full may be waived in respect of connections given in the rural areas.

• The spectrum may be given free of charge in the rural areas.

• No service tax from the rural subscribers be charged.

• Income tax benefits on investments made in rural areas, or for companies which provide a predominant

part of their services in rural areas, may be considered.

However, if the entire amount of license fee collected by the Government from the telecom service providers

is ploughed back into rural telephony through the USO Fund and if the guidelines framed for utilization of the

USO Fund cover operational as well as capital expenditure, there may be no need for waiver of license fee in

rural areas. All these benefits coupled with support through the USO Fund may be extended to both private

and public sector operators for a period of 10 years. This will go a long way in ensuring adequate investment in

rural telecom.

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6.2 Customer service Recommendations

1. The QOS parameters for operators, both for network performance and service management, should be

widely publicized by the regulator. Penalties for the defaulting operators, in the form of compensation

to subscribers, should also be prescribed.

2. All service providers should come out with their charters (like citizens’ charters) detailing customer

rights, service provider’s obligations and compensation for the customer for non-adherence of

obligations.

s

3. All customer related services like fault booking, commercial matters relating to opening and closing of

services, billing matters should be fully computerized during the 1st two years of the 10th Five Year Plan

and integrated with each other with computable data banks. This will enable introduction of ‘Call

Centers’ so that the customers are able to do business such as purchase, sales and support services,

etc., over telephone itself. A Call Centre is an efficient way of taking care of customers and for providing

customer services. A Call-Centre can also act as a computerized public grievance cell.

4. All customer services available to urban customers should be extended in a phased manner to rural

customers during the 10th Plan period.

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