Telecom bubble rising

Two sets of figures pertaining to the Indian telecom industry were released recently. Each tells a different story. According to the one released by the Telecom Regulatory Authority of India (Trai), the wireless subscriber base increased by 16.67million during October 2009, taking the total number of subscribers to 488million. That’s a yearly growth rate of almost 50 per cent — a continuation of the great Indian telecom story.

Meanwhile, for the September quarter, Bharti Airtel, the country’s largest cellular operator, saw its profits slide quarter-on-quarter for the first time in its history. Rival Reliance fared no better: its profits fell by more than 50 per cent compared to last year. Vodafone Essar’s revenues too fell 7 per cent in the September quarter compared with the June quarter. How does this make sense? More subscribers mean more revenues, and more revenues mean more profit, right? Well, not exactly.

Shrinking profits
The first part of the answer lies in the fact that the new subscribers are from the “bottom of the pyramid” and contribute very little to revenues. “Till we reached the 300million mark, each subscriber was contributing to the top line (gross revenue) and the bottom line (profits) [of cellular operators]. But after 300million, not everyone’s been contributing. Today, between 10-20 per cent of an operator’s subscribers are not contributing [to revenues]. They have just taken the phone to receive incoming calls,” says analyst Romal Shetty, head, telecom, KPMG India.

Secondly, there is an increasing trend of consumers buying two or more SIM cards to take advantage of schemes offered by competing operators. According to a recent report by Macquarie equities research, the recent addition of subscribers has been due to “increased incidence of dual SIMs”. So the total number of people using a mobile phone might actually be lower.

Thirdly, in a bid to rapidly add subscribers, new players such as Tata Docomo have driven prices down with schemes such as per-second billing. Existing players such as Airtel, Reliance and Vodafone have followed suit. Also, the subscriber growth today is fragmented between 13-14 operators who have set up base in India — an unsustainable number, according to analysts.

All these factors are expected to push down the average revenue per user (Arpu). Now, Arpu has always been falling in India (from a little over Rs300 per month in 2006 to less than Rs200 per month in 2009) thanks to lowering of tariffs. But it never affected the revenues of cellular operators because they continued to add more subscribers. This, however, will be difficult to achieve now.

For the first time, experts are predicting a fall in the EBITDA margins of telecom companies. EBITDA is earnings before interest, tax, depreciation and amortisation. A lower EBITDA margin indicates lower profitability, making companies less favourable for investment.

“It’s after one quarter that we will see the full impact [of the price war]. EBITDA margins historically have been around 35 per cent for publicly listed players in India. That could fall to below 30 per cent,” says Kunal Bajaj, managing director, BDA Connect, an advisory firm. The telecom industry will see a ‘bloodbath’ for at least two years. According to analysts, there will eventually be a consolidation, which will leave only six or seven of the current 13-14 players standing.

VAS is the difference?
In the mean time, with diminishing returns on calls and SMSes, cellular operators need to shift their focus to value added services (VAS), opine experts. “In mature markets like Japan and Korea, 30 to 40 per cent of revenues come from VAS. In India, operators earn around 90 per cent from voice and only 10 per cent from VAS,” says Shetty. 
Revenue per user doesn’t normally increase on voice services, adds Shetty, pointing out how VAS can boost margins for the operator: “With Indian Idol, an SMS to vote for your favourite contestant costs the user Rs6. The cost of providing that SMS might be less than 10ps to the operator.” That’s some margin, no doubt. However, person-to-person SMS is priced much lower.

VAS will also help in retaining [higher end] customers, says BDA Connect’s Bajaj, “The higher end segment has remained untouched by the recent price wars because it is not so price sensitive. They also tend to be very loyal to their phone numbers. [But] when mobile number portability comes into play, operators risk losing this higher-end customer base. This could also affect large bulk enterprise deals. So, one really needs to think about how to retain these consumers by offering compelling services.”

Things have begun shifting on the ground as well. According to Mouli Raman, co-founder and chief technology officer, OnMobile, a VAS provider, “There is an urgency [among cellular operators] that we haven’t seen before. We had some products in the pipeline on which operators were not keen on earlier because of other preoccupations. But now they are really pushing them through so that they can take [the service] to market much faster.”

Beyond caller tunes
Although there are several examples of VAS that are doing well, they are restricted to services such as caller tunes or on-demand music. Such services constitute what Mouli calls “the first phase” of VAS.

High-spending customers, who typically also own smartphones, look for internet-based services, which are just not up to the mark in India, says Bajaj. “Today, ring tones account for a disproportionate share of the VAS pie and that is only because there isn’t much else of value that has been marketed to the consumers,” points out Albert Almeida, chief operating office, Hungama Mobile

KPMG’s Shetty agrees: “When telecom services get into the eco-system of the people — and by that I mean the economic life-cycle of people, when they use it for business services… That’s when the second revolution will take place.”

This is happening at a very smallscale today. Mouli points out a company called Baba Jobs which has a mobile service to help rural migrants find jobs in cities. “This is a very niche application. But people are willing to pay Rs30-40 per month for the service.”
Another such tool is Reuters Market Light, which provides farmers price information on various crops from nearby mandis. This service has, according to the company, been used by 1,35,000 farmers in two years. “Even farmers are willing to spend Rs60 per month, because they feel they can get a return on their investment,” says Bajaj.

On the whole, it is hard to deny that cellular operators are under pressure on multiple
fronts: the levelling off of new and high-usage customers, falling revenue per user, the spectrum squeeze, and a deadly price war that is bound to hurt revenues. Plus, the Trai is getting into the picture to trim hitherto fat margins on SMSes. And there’s also the risk of consumer disenchantment with poor quality of services which could, with number portability in the offing, result in the erosion of customer base. It is clear that the tough times ahead will be a call of opportunity that, if not answered swiftly, may prove to be a fatal missed call.