Vodafone/Idea: options strategy
Some markets are too important to ignore. BP was burnt in Russia but still went back for more. Vodafone, which has taken $6.6bn of writedowns in India, is trying to cap its liabilities without giving up on a country where a price war has crushed margins.
Yesterday, the UK telecoms group said it would inject its Indian operations into Idea Cellular in a complex deal that will initially leave it with 45.1 per cent of the combined group. Conglomerate Aditya Birla Group will own 26 per cent and Idea’s minority investors 28.9 per cent.
The immediate upside is obvious. The new company — so far nameless, but let us call it Vodea — will be the biggest telecoms group in the country with almost twice as many customers as Vodafone India alone. Idea’s presence in rural areas complements Vodafone’s strong position in cities.
As Vodafone’s interest in Vodea will be below half, it will be deconsolidated. That will shift about $8.2bn of debt off its balance sheet. Further cash proceeds could come from the sale of all or part of its 42 per cent stake (worth around $4bn) in masts group Indus Towers, which is not included in the merger agreement. Vodea is meant to be self-funding, helped by $2bn a year of cost savings and rationalised capital spending. With less debt and freed of further commitments in India, the UK group could invest in markets that exhibit more rational pricing.
Vodafone is confident that eventual cash returns from Vodea’s dividends, plus the Vodea shares it sells to Birla over the next few years, will exceed what it might have made had it ploughed on alone. Birla’s eventual stake could be as much as 35 per cent or as little as 26 per cent, under an equalisation agreement that looks generous to the Indian company.
The risks are obvious. The Indian telecoms market could undergo plenty more disruption of the kind created by upstart Jio in the 12-18 months it may take to complete the deal. Although Vodafone will start as the biggest shareholder, it cedes control to a board where it will nominate only a quarter of the directors. And rivals could poach customers while Vodea is preoccupied with compliance and cost savings.
Crucially, Vodafone has an exit route. Vodea will remain a listed company. If India turns out well, Vodafone could eventually increase its stake; if not, it could sell out with relative ease. That is the best aspect of the entire deal.