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8 September 2020

Hyperscalers may offer essential lifeline for India’s Vodafone Idea

There was some relief for India’s beleaguered mobile operators last week, when the country’s Supreme Court issued its final judgement in the controversial adjusted gross revenue (AGR) issue, giving the operators 10 years to pay their back-dated fees.

The Court had previously imposed orders for huge back-payments related to the accounting changes, totalling about $19bn – most of it applying to Bharti Airtel and Vodafone Idea. The fees threatened to wreck the MNOs’ already fragile 5G business case, after they had already suffered from price wars sparked by the entry of disruptive newcomer Reliance Jio, and were facing large sums to buy 5G spectrum.

Vodafone had even threatened to exit the market altogether if the AGR fines were not reduced, or at least the three-month payment deadline extended. While the fees stand, at least the operators now have 10 years to make the payments, although the MNOs had asked for 15 years, and the Indian government for 20. The latter is keen not to weaken the major telcos because this could compromise its national 5G objectives. Already, a planned auction of spectrum has been postponed from 2020 to 2021 under pressure from the operators.

The telcos now have to pay 10% of the total by February 2021, and the rest in 10 annual instalments starting in 2023. However, despite the improved payment schedule, some analysts still think the AGR fees, combined with 5G spectrum and roll-out costs, will make it hard for the operators to invest in their new networks and achieve sufficient quality of service to support new services, and particularly, to help with digital transformation of India’s enterprises and social processes.

Vodafone Idea, which was the biggest mobile operator in India when it was formed from the merger of Vodafone India and Idea Cellular, looks the most vulnerable. Its parent firm has insisted it will not prop the subsidiary up with further unplanned injections of cash, and it has slipped into third place in subscriber numbers, behind Reliance Jio and Bharti Airtel, hit by creaking networks in many areas and by price wars. Unless it dramatically improves its profitability – difficult in a market of low ARPU and competitive pricing – its annual AGR payments equate to 111% of its annualized EBITDA, according to calculations by analyst at Jefferies. It owes about $6.9bn, of which it has already paid about $1bn.

Chris Hoare, an analyst at New Street Research, wrote in a client note that the failure to reverse the AGR fees, or secure an even longer payment period, “will make it difficult in our view for VIL to pay spectrum and AGR dues, and invest. Unless VIL can raise significant capital the third player likely remains the sharp under-performer.”

Bharti Airtel has already paid about $2.46bn of the $5.9bn it owes, according to India’s Economic Times, and annual AGR fees are set to be about 22% of EBITDA. Reliance Jio, having only entered the market in 2016, has far lower back-payments to make.

The normal answers would be to increase ARPU and market share, to reduce costs and/or to consolidate. But that is far easier said than done in India, where the entry of Jio has driven down ARPU in an already low-cost market, and where the operators are famously cost-effective. 5G services, especially for enterprise, as well as the convergence of content and other applications, should shift ARPU up once more, but Jefferies estimates that Bharti needs to achieve a 10% improvement to neutralize the AGR effect, while Vodafone needs 27%. These are hefty targets, especially as the operators are unlikely to have significant 5G coverage deployed until at least 2023, and have limited ability, with their current overstretched 4G networks, to add value for customers.

Jio, with its modern 4G-only network, is in the best position to launch new services, and so to take advantage of any upward trend in ARPU, while also harnessing its investments in video content and fiber to offer quad play bundles.

Meanwhile, there are few opportunities for consolidation, after a wave of M&A over the past few years, which has seen India’s once-long list of MNOs reduced to the big three, plus the state-owned BSNL/MTNL.

However, there might be acquisitions of another kind, or at least major investments, given the recent enthusiasm of the US hyperscalers to take stakes in Indian operators, and so lay the foundations for building a 5G/cloud business in a market with the world’s largest number of small and medium enterprises.

Vodafone Idea is reported to have secured $4bn in investment from Amazon and Verizon, which would be a much-needed injection of cash to offset its problems with AGR dues and looming spectrum fees. With the AGR payments plan at least clarified, the telco is expected to return to talks with the prospective investors, which were on hold because of the uncertainty of the situation.

Earlier this year, Google was reported to be talking to Vodafone Idea about taking a 5% stake, while Amazon was said to be looking to buy a similarly sized share in Bharti Airtel and Microsoft mulling a $2bn investment in Jio.

All this interest was sparked by Facebook paying INR435.7bn ($5.7bn) for a 9.9% stake in Jio Platforms, the subsidiary of Reliance Industries (RIL) in which Jio sits. That was followed by Google taking its own 7.7% stake in Jio.

Jio now has a list of about a dozen industrial and private equity investors, which will wipe out most of its debt and enable it to invest in its networks, spectrum and other assets, possibly widening the gap with its rivals still further. The company says the next stage of its partnership and investment program will focus on local companies. Mukesh Ambani, chairman of the parent firm Reliance Industries (RIL), is keen to develop a homegrown 5G platform which can be manufactured largely in India – a goal that would also support the government’s faltering ‘Made in India’ program.

Reliance Jio has made several acquisitions, including of protocol stack and software integration provider Radisys. It may now look for purchases of, or stakes in, other local companies, including manufacturers, as well as strategic alliances with large Indian integrators such as Tech Mahindra (which has a stake in one of Jio’s vRAN software providers, Altiostar).