The Hindu Business Line : Too stretched, by far?

As the bidding war for the fourth largest Indian wireless telephony operator Hutchison Essar escalated over the last month, initially talked about valuations of $13 billion and $15 billion for the company rose to $20 billion and above, leaving many market watchers goggling.

At $20 billion-$22 billion, the enterprise-value-per-subscriber that would be paid works out to $800-$1,000. The extent of `control premium' that's being estimated is far away from Bharti-Airtel's enterprise value per subscriber, which in recent times has been ranging at over $650, said an analyst with an overseas investment bank who did not want to be identified.

Whether the ultimate buyer pays more — or less — than these figures would indicate, the frenzy with which Hong Kong-based Hutch Telecom International's stake in the joint venture is being pursued is matter for much debate.

When asked for comment on the valuations of Hutch-Essar, Sunil Mittal, head of Bharti Airtel, had told presspersons that the value being talked about is `not cheap'. This from the head of the largest wireless operator in the country whose market capitalisation was roughly $28 billion as at mid-January this year.

And, though the potential bidders such as the UK-based Vodafone and Reliance Communications themselves have explicitly committed to not over-stretching themselves for the acquisition, one never knows whether the competition will force them to push their limits.

The Essars have expressed interest in bidding for HEL, and have told sources close to the developments that they can exercise their right of first refusal to buy out Hutch themselves. The Hinduja group have also said they are interested. Both corporate houses have claimed, directly or indirectly, that they have assurance of funding from banks and financial institutions.

While the Vodafone chief, Arun Sarin, made a high-profile India visit meeting Ministers and government officials, the UK itself is pushing the cause of Vodafone.

The UK Government would assure neutrality on Tata Steel's bid for Corus, and reciprocal treatment was being requested for Vodafone, said the UK Secretary of State for Trade and Industry, Alistair Darling, who recently met the Indian Commerce and Industry Minister, Kamal Nath. Even the European Union Trade Commissioner had met Kamal Nath on this issue.

`Tremblingly attractive'

There are many factors, of course, that make HEL an attractive target for such a chase, said an analyst with an investment bank. For one, HEL is the fourth largest wireless operator, with a 16.4 per cent market share in the fastest growing wireless market in the world.

From August 2006, absolute monthly subscriber additions in India overtook that of China, the largest wireless market in the world with 500 million subscribers. India had over 142 million subscribers as at December 2006. Its GSM base doubled, to reach more than 100 million while its CDMA base tripled to reach 36.7 million in calendar 2006.

Since the projections for India are telephony penetration of 50 per cent, (currently metro penetration is over 45 per cent, B circle penetration nearly 9 per cent and C circle penetration still in the single digits) the growth potential is `tremblingly attractive' leading to this mad bidding for a piece of the Indian pie, as an analyst put it. Also, India has always beaten its targets with respect to wireless telephony uptake.

For Vodafone, a majority stake in HEL would fit in with its stated objective of looking at emerging markets for growth.

For Reliance Communications, most analysts say, HEL would be even more attractive. This CDMA player, which has applied for GSM licences in more than a dozen circles, will automatically get a presence in 16 GSM circles of which only two or so would overlap with its own limited GSM operations. There are synergies to be had in terms of savings on equipment, operations, personnel, marketing and costs, and a faster run to the market than if it laid a Greenfield network from scratch.

This is not to mention a market share of more than 36 per cent post consolidation, including the higher ARPU-customers that Hutch would bring, complementing RCom's own lower-ARPU but broader based subscriber profile. (As at September 2005, RCom's ARPU was Rs 354, Hutch's Rs 420 and Bharti's Rs 438).

"Other wireless operators in India would naturally not like such a thing to happen. They would not like a sudden giant on the scene with a 36 per cent market share, towering over the current market leader whose share is far lower, at 22.4 per cent," noted an analyst with an overseas investment bank. (There is also another train of thought doing the rounds, that integration problems for two such different operators as RCom and HEL will result in a chaotic business).

Declining ARPUs and valuations...

However, on the flip side, Indian ARPUs are declining, as operators move out of saturated segments to shore up their base with lower-revenue giving subscribers. Average industry ARPU fell, from Rs 375 per month for the July-September 2005 quarter, to Rs 335 per subscriber per month a year later, in July-September 2006, constituting an 11 per cent decline. And the industry is still seeing a decline in ARPU, according to T.V. Ramachandran, Director-General, Cellular Operators' Association of India.

Would falling ARPUs justify large valuations, especially when there would be capital expenditure incurred in reaching new customers, ask some analysts. Though they also point out that EBITDA margins for most operators are healthy in the 30 per cent-plus range and expected to grow.

Companies such as Idea Cellular and Maxis-Aircel have applied for licences in several circles to augment their current footprint. This could bring down ARPUs further as more players enter the fray. Should some of these other operators get listed on the Indian bourses, then would a very high price paid for Hutch still hold?, is what some analysts are asking.

From the Indian point of view, Vodafone buying HEL is not really consolidation in terms of number of players, which will still remain the same. RCom, on the other hand, would have to merge HEL into itself.

Many Complications

Currently, the complications in the Hutch sell-out are many. Vodafone might need an Indian partner to keep itself within the 74 per cent FDI norm. Then Essars must agree with Hutch on the buyer. The two partners already disagree on the extent and scope of Essars' first right of refusal to a Hutch stake sale. The Essars could potentially resort to litigation, and that could make the whole process drag on.

Vodafone may also have to get rid of its 9.9 per cent stake in Bharti-Airtel. It has to create for itself a liquid position in these shares so that if it wins HEL, it is ready to sell off its Bharti-Airtel stake. A refusal by its shareholders to approve HEL valuation could see it overtaken by other bidders.

Reliance Communications, as an existing Indian operator, would have to buy out HEL completely, and that would mean the Essars have to be willing to sell to them. "And we don't know how likely that is," said an analyst with a broking firm.

kripram@thehindu.co.in

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Too stretched, by far?