In April 2014, Tata Teleservices Limited (TTSL) was apprised by its joint venture (JV) partner, Japan-based telecom operator NTT DOCOMO, of its decision to end the collaboration. To this end, DOCOMO has decided to exercise its put option, which is a part of the agreement signed between the JV partners in 2008, and exit the Indian market.
The Japanese company’s decision to pull out of the JV was reportedly a result of TTSL’s inability to meet, by March 2014, some of the performance targets set by the former. TTSL’s poor financial performance over the past few years has been a key reason. The company has been witnessing significant erosion in its net wealth on account of continuing losses. According to media reports, TTSL’s net worth dropped to negative Rs 18 billion in 2013. Net losses have been increasing as interest expenses have risen considerably on account of debt accumulated over the years, while the marginal increase in revenues have failed to offset the increase in finance costs. On the upside, the company has been witnessing positive earnings before interest, depreciation and amortisation for both the mobile and enterprise business segments.
However, it is not just TTSL’s weak financial position and operational performance that have set off alarm bells in Japan. DOCOMO is also concerned over the uncertain regulatory regime in the Indian telecom sector. The sector has been mired in controversy following the cancellation of 2G licences by the Supreme Court. TTSL, which had been allocated licences in 2008, also saw its permit cancelled by the apex court. Meanwhile, the uncertainty related to regulatory issues, such as merger and acquisition norms, spectrum sharing and trading guidelines, and 3G roaming pacts has still not been addressed fully. Given the current scenario, what once seemed to be the most attractive telecom market is now being considered a risky investment by NTT DOCOMO, as a result of which, the company is looking to pull out of its Indian JV.
Limited competition and aggressive business strategy impact performance
TTSL began its operations with the launch of CDMA-based fixed line services in 1996. Subsequently, it started offering CDMA-based mobile services due to the rising adoption of wireless services in 2005. However, owing to the relatively underdeveloped ecosystem of CDMA technology vis-à-vis GSM, TTSL was unable to exhibit growth similar to that of its GSM peers. Given the customer preference for GSM-enabled mobile handsets, as well as the absence of a defined roadmap for CDMA spectrum, TTSL launched GSM services in 2008 under the brand name Tata DOCOMO.
Although TTSL’s pay-per-second pricing strategy worked remarkably well initially and was able to attract a large number of customers, the advantage was short-lived, since other operators soon followed suit. This resulted in a tariff war that lasted over three years, with operators competing only on price points. As a result, TTSL was unable to improve its market position in any significant manner.
“TTSL was a late entrant into the Indian mobile market and is underperforming like other players in that group. Its failure to evolve a clear technology strategy has been a serious barrier,” says Dr Mahesh Uppal, director, ComFirst.
Meanwhile, like other companies, TTSL bought 3G spectrum in the 2010 auctions at a significantly higher cost than the reserve price. To finance the acquisition of 3G spectrum, TTSL borrowed a considerable amount of funds, thereby accumulating a significant debt on its books.
This subsequently turned out to be a bad move. The company was witnessing a slowdown in the voice service business while the data business was not picking up as expected, which started affecting the top line. Meanwhile, interest expenses soared on account of higher liabilities, resulting in net losses for the company. As per media reports, the company’s losses increased from Rs 35.08 billion in 2010-11 to Rs 42.27 billion in 2011-12, and further to Rs 48.58 billion and 61.66 billion in 2012-13 and 2013-14 respectively.
DOCOMO to exercise its put option
Taking into account the huge debt burden, the significant erosion of TTSL’s net worth and the uncertain regulatory environment, DOCOMO decided to exit the JV. It had bought the put option to sell its 26.5 per cent stake in the JV for either 50 per cent of the acquisition price or the market price, whichever is greater. Despite taking a significant cut in its earlier investment, DOCOMO may have to wait till a consensus is reached with TTSL due to the associated complexities.
Firstly, TTSL and Tata Sons, the parent company of TTSL, will have to secure a considerable amount of funds to buy back equity shares from DOCOMO. While Tata Sons has been successful in arranging for a large amount of capital since early 2014, it is still significantly short of the Rs 72.50 billion required to repurchase the stocks.
Secondly, Tata Sons may struggle to find a suitable buyer to acquire DOCOMO’s stocks, given TTSL’s weak financial situation and low competitiveness. The merger and acquisition norms may also cause issues for the incumbents in acquiring DOCOMO’s stake. For instance, the revenue and subscriber market shares for the merged entity may cross the stipulated 50 per cent barrier in some circles. Further, the merged entity would be required to pay a one-time spectrum fee for the additional spectrum received from TTSL as part of the acquisition, which can be problematic for the incumbents since they already hold a large quantum of spectrum.
Thirdly, as per the existing regulations of the Reserve Bank of India, options must be exercised based on the current rate of return on equity rather than a pre-agreed price. Given that TTSL’s net income is in the negative, return on equity cannot be estimated, and hence the valuation process may entail a considerable length of time. As a result, the completion of the put option proceedings is expected to get delayed.
Focus on emerging business opportunities
Like most telecom operators, TTSL is increasingly focusing on its data service business, given the growth potential of the segment. The Indian telecom market is witnessing a data revolution with the rapid proliferation of smartphones and the rise in demand for high-speed mobile broadband services. To its advantage, TTSL has always remained at the forefront in the data service space. The company was the first in the industry to launch commercial 3G services. Following a slow start, its 3G service business has been growing, as the demand for mobile broadband services continues to increase. Further, the company is taking various steps to encourage greater adoption of these services and has extended its 3G offerings to new circles. It has collaborated with Reliance Communications and Aircel to offer 3G services in the areas where it does not hold spectrum. However, this arrangement may not last for long if the final verdict on the 3G intra-circle roaming (ICR) agreements results in a ban. Consequently, some customers may be wary of opting for TTSL, given the uncertain future of the services. Nevertheless, the 3G ICR agreements have enabled TTSL to offer these services to customers in the unlicensed circles, thereby attracting new customers. Further, in its attempt to improve network coverage and capacity, the company awarded a contract to Nokia Networks to upgrade its network to HSPA+ technology in the states of Karnataka, Haryana and Punjab circles.
In the past two years, while the growth of TTSL’s 3G mobile-based services has been relatively limited as compared to the incumbents, its dongle business has been performing well. In fact, the company claims to have a market share of 40 per cent in the dongle segment. TTSL also benefits from the fact that it holds spectrum in the 800 MHz band, which is considered much superior to higher frequency bands for providing data services, especially inside buildings and stadiums.
TTSL offers wireless broadband access to customers through its Photon range of dongles. In November 2013, it launched the Photon Max Wi-Fi dongle, which allows several users to access the internet simultaneously, through multiple devices, at a speed of up to 6.2 Mbps, using Evolution Data Optimised Rev.B technology. The company is currently offering these services to around 2.5 million subscribers in over 5,000 towns. Given the huge demand for its Wi-Fi dongle from its post-paid customers, the company plans to offer the service to its prepaid customers as well.
Another sub-segment in which TTSL is excelling is Wi-Fi hotspots, which it began installing in mid-2013. In the past one year, the company has deployed around 1,200 hotspots in various public places such as malls, hotels and airports. Recently, it partnered with the New Delhi Municipal Corporation to provide Wi-Fi connectivity at Connaught Place, New Delhi. TTSL has set a target of deploying 4,000 Wi-Fi hotspots and intends to focus on nine major cities that together generate about 70 per cent of the data traffic. In fact, the company is also in talks with several government agencies to implement Wi-Fi solutions under the government’s Smart Cities project.
As part of its efforts to focus on enhancing its broadband and data offerings, TTSL has also launched a wired broadband express service, which provides wireline broadband services with speeds of up to 100 Mbps. It has already launched these services in Tier I cities and also intends to offer them as part of its Connected Homes solutions. Given the dominant market position of the incumbents – Bharti Airtel and Bharat Sanchar Nigam Limited - and their extensive wireline network across the country, TTSL is likely to face intense competition in gaining a foothold in this space.
The company is optimistic about the growth potential of the enterprise business segment. Many companies, especially small and medium ones, have realised the benefits of enterprise mobility services and are, therefore, increasingly opting for these solutions in order to focus on their core business and optimise costs. The enterprise market is currently worth around Rs 450 billion and is expected to increase at a compound annual growth rate of 10 per cent over the next 10 years. However, like the data services business, the enterprise segment is being targeted by most operators, which restricts the opportunities for TTSL to a certain extent.
Short-term outlook remains tenuous
Given its precarious financial situation, TTSL’s near-term outlook remains bleak. The company is expected to continue to register heavy losses in the near future as interest expenses will take a toll on the bottom line. Further, the company may face stiff competition in the data services space with the incumbents increasingly expanding and improving their network coverage and capacity. In addition, Reliance Jio Infocomm Limited is expected to soon launch its 4G services, which is likely to put a downward pressure on tariffs, further reducing profitability. Also, TTSL holds only 4.4 MHz and 2.5 MHz of spectrum in the 1800 MHz and 800 MHz bands respectively, which may constrain its ability to offer mobile broadband services until it acquires additional spectrum in the auctions. This, however, may boost the capex of the company, which will further increase interest expenses.
If TTSL is able to capitalise on both data and enterprise mobility business opportunities, it may well be able to turn around its fortunes in the long term. For this to happen, TTSL will require considerable equity infusion from its stakeholders, especially Tata Sons, over the next few years. This will not only help TTSL in prepaying its loans and reducing its interest burden, but also help it compete effectively with its peers.