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The $1.2 billion deal through which the Essar Group has acquired a controlling interest in BPL Communications is a milestone. Not only is this one of the largest M&A deals in the country, it is also likely to impact equations within the Hutchison-Essar combine and in the industry. Above all, it will hasten the process of consolidation, proving to some extent that economies of scale are crucial to compete effectively in the long run.

The company in focus –­ BPL Communications –­ is a majority stakeholder in BPL Mobile Communications, a mobile service provider in Mumbai, and in BPL Mobile Cellular, which operates in Maharashtra, Goa, Tamil Nadu, Pondicherry and Kerala. The companies provide services under the brand name BPL Mobile and BPL Cellular.

The two service providers have a combined subscriber base of about 2.6 million and cater to over 200 cities. Operating in the metro, Category A and Category B circles, these companies presented an attractive investment opportunity for both domestic and foreign players. Though BPL Communications was approached by companies like China Mobile, Orascom Telecom and Alpha Telecom, it was the Essar Group that managed to clinch the deal.

The Essar Group fit well into Rajeev Chandrasekhar's (chairman and CEO, BPL Mobile) requirements for BPL. "I strongly believe that the decision to be acquired by Essar and eventually Hutchison-Essar is the best for our customers and for team members of BPL Mobile, and that this more than anything else was what helped me decide in favour of Essar," says Chandrasekhar.

As part of the deal, the Essar Group has entered into a binding agreement to acquire a controlling interest in BPL Communications. Essar will buy out the 67 per cent stake held by Chandrasekhar and associates, as well as the 33 per cent stake held by foreign investors like CDC, AIG, AIDEC and TVG. Once the deal receives the necessary approvals, the BPL companies will be merged with Hutchison-Essar.

Although Chandrasekhar is confident that "this deal falls under the intra-circle merger category and all the guidelines stipulated under it have been complied with", some issues could still crop up. This is because Hutchison-Essar and BPL both hold licences for the Mumbai circle.

According to regulations, one promoter cannot hold two licences for the same circle. Though this problem will be removed if the two companies merge their operations, they will have to ensure that the merged entity does not have more than 66 per cent of the subscribers in the circle at the time of the merger.

Assuming that these approvals will come through, the deal is significant for the Hutchison-Essar combine. As Ravi Ruia, vice-chairman of the Essar Group, puts it: "This agreement gives us the ability to increase our presence in the country and add muscle to an already strong presence through Hutchison-Essar. This and the Essar Group's other plans in the telecom sector will give us a pan-India footprint and make us a significant player in this business.

At present, the Hutchison-Essar Group operates in 13 circles. As of June 30, 2005, Hutchison-Essar had 8.44 million subscribers. With the inclusion of BPL Communications, three new circles and 2.63 million subscribers will be added, increasing Hutchison-Essar's subscriber base by as much as 31.2 per cent.

With approximately 11.07 million customers, Nimesh Kampani, chairman of JM Morgan Stanley, says "The proposed combine of Hutchison-Essar and BPL Mobile will create a national footprint and will emerge as a strong force alongside Airtel and Reliance.

A look at the subscriber base of various telecom companies corroborates this. Hutchison-Essar will overtake BSNL's celWith approximately 11.07 million customers, the proposed combine of Hutchison Essar and BPL Mobile will create a national footprint and will emerge as a strong force alongside Airtel and Reliance. lular subscriber base and occupy number two position. It will have inched much closer to Bharti with its 12.2 million GSM subscribers and Reliance Infocomm with its 12 million CDMA subscribers.

Besides the increase in size, Hutchison-Essar would be acquiring a company that has performed well. As Chandrasekhar puts it: "We remain today an unquestioned number one or number two in all our markets, despite the intense competition and the disadvantageous hand that was dealt to the pioneering companies and investors by regulation and policy." Also, financially, though BPL Mobile has lower-than industry-ARPUs, it reportedly has an EBITDA margin of 40 per cent, higher even than Bharti's 38 per cent.

The company also has a definite plan in place to increase subscriber figures. In April 2005, it announced the launch of the Rs 6.25 billion project "Rapid Growth" through which it plans to add 1.5 million subscribers, increase revenues to Rs 13 billion and operating profit to Rs 6.5 billion in 2005-06. This project reportedly came after "Operation Accelerated Clawback", which saw BPL Mobile's revenues increase by 39 per cent to Rs 10.12 billion in 2004-05.

In the words of Chandrasekhar: "The strength of our franchise along with the strong financial performance posted in recent months and the last one year made us a highly valuable investment proposition for Essar." This deal will no doubt have a positive impact on HutchisonEssar, especially since it plans to go in for an IPO in the near future.

It is also likely to impact the status quo within the Hutchison-Essar joint venture. It may help Essar to increase its stake in Hutchison-Essar to about 40 per cent from the current level of 30.42 per cent. The Ruias of Essar have been at odds with Hutchison over this issue recently. The group has wanted to increase its stake in the joint venture but Hutchison has declined this.

The deal with BPL Communications may help change Hutchison's decision. This, coupled with the fact that the Ruias have applied for licences in seven circles where Hutchison does not operate, will no doubt have its impact.

Moreover, with few small and regional players left in the industry, the BPL deal is likely to affect the process of consolidation. This is especially true since these companies are nowhere near meeting the 10 million subscriber base that is believed to be a global benchmark for sustaining telecom services. Companies like Idea, Spice and Aircel are likely to feel the heat.

This is one of the reasons why the industry is keenly watching the regulatory implications of the deal. If the Department of Telecommunications (DoT) clears the way for this merger, other similar M&A activity may be in the offing.

As it is, a $1.2 billion offer has been made to a company that had seen infighting between its partners. In the past, the foreign investors in BPL Communications had decided to jointly block the company's proposed merger with BirlaTata-AT&T. Chandrasekhar was also embroiled in a conflict with BPL group head T.P.G. Nambiar. This conflict has since ended.

In any case, Essar's decision to invest in BPL despite these conflicts may have paved the way for companies like Spice, which too has seen some infighting between its partners. The B.K. Modi Group has termed the Essar Group's move to acquire the stake of foreign shareholders in Spice as a "hostile bid".

It has also managed to get a stay order from the high court which prevents such a sale from happening. While in the past investors would have been wary of investing in companies with internal disputes, BPL has shown that these need not be a deterrent.

Further, the BPL deal will have an impact on the price at which the few regional players that remain will be sold. For example, a company like Aircel, which operates in two important circles, Chennai and Tamil Nadu, and has around 1.88 million subscribers, will be able to quote a much higher figure to interested buyers.

Also, as the scarcity of spectrum increases, one of the ways for service providers to add to their subscriber base effectively may be by acquiring other companies and their spectrum. In such a case, high acquisition prices for regional players may be even more justifiable.