The current plight of mobile service providers underscores an old truth of neo-classical economics: Conditions in capital intensive-industries are, by their very nature, such that they cannot support a market structure that approximates perfect competition. In the mobile phone business, there are 10-12 operators in a service area. This has led to a free-fall in tariffs without an increase in business. Economists have known for a long time that — be it airlines, shipping, railways, telecom, or any other capital-intensive business — near-free entry leads to ruinous competition for market share with profit margins eventually shrinking to nothing. This is what has happened in the mobile business in India. Some firms will now have to throw in the towel because even the big boys are in trouble. Vodafone's profit margins have seen a sharp decline in 2011 from their levels in 2007; Bharti Airtel's return on capital employed has similarly gone down during this period. A combination of mounting costs and declining revenues are hurting them. Idea Cellular's operating expense, as a percentage of revenue, for instance, has increased from 12 per cent to 31 per cent during this time. The industry's average revenue per user has declined from Rs 262 in 2007 to Rs 100; minutes of usage per user have fallen from 465 to 369; and net subscriber addition has fallen from 14-15 million a month to just over 8 million. In short, they are all spending more and more to earn less and less.
The industry thinks lower taxes and charges will help. Mobile operators in India pay 19-28 per cent of their annual revenues to the Government in the form of licence fees, spectrum charges and service tax. They are also paying for the cost of implementing mobile number portability — estimated to be around Rs 500 crore. Then, there are costs relating to security requirements. Add to this the normal costs of expansion, which have to be financed with less FDI and more expensive credit, and the industry's debt burden has shot up. It is little wonder, then, that Tata DoCoMo, Bharti Airtel and Vodafone have all increased tariffs over the past two months, indicating a reversal in the trend since 2004.
Clearly, the policy-makers have to step in quickly to stop the carnage. A clear and liberal policy to encourage M&As will help ensure that there only five-six players in the market. Current restrictions on buying out rival operators in the same area of operations should be done away with and, post-merger, the combined entity should be allowed to keep the spectrum. Simultaneously, the government should tweak the current licence fee regime to lower the cost burden on operators even as spectrum pricing is left to market forces. As quid pro quo, the Government can tighten the roll-out obligation to ensure that operators don't misuse the sops given to them.