Challenges loom for Vodafone after India deal
Tie-up with Idea will need to spend heavily to keep pace with rival Jio’s investment in mobile broadband network
An hour after announcing the biggest merger in Indian corporate history, Vodafone chief executive Vittorio Colao sat in a Mumbai hotel ballroom, insistently denying that his hand had been forced by the global telecom sector’s most aggressive new arrival.
The proposed merger of UK-listed Vodafone’s Indian subsidiary with its local rival Idea Cellular would create the country’s largest mobile operator, with an aggregate subscriber base of 396 mas of December, and a combined enterprise value of $23.2bn, according to the merger terms revealed yesterday.
The deal follows an ambitious assault on the sector by oil refining giant Reliance Industries, whose Jio subsidiary is investing $29bn to provide what it says will be mobile data services of unrivalled quality and value.
Mr Colao admonished Indian reporters, however, for perceiving a connection.He said :“Our decision to merge has nothing to do with Jio.”
Few analysts are willing to take him at his word. Last April, Vodafone was sounding out bankers about a possible listing of its Indian unit. But the force of Reliance’s arrival in September upended strategic plans, as its chairman Mukesh Ambani announced it would provide its mobile broadband services free of charge for three months — later extending to six. Two months on, Vodafone wrote down the value of its Indian business by €6.3bn, citing the transformed competitive landscape.
Attention will shift to how much that landscape will be altered once more by this merger. It could usher in a new era for a long-fragmented telecoms market that would now become clearly focused on three large groups. Bharti Airtel, market leader with 266m subscribers, last month absorbed the struggling Indian operation of Norway’ s Telenor.
“We consider this merger to be a game changer for the Indian telecom industry,” said Arun Agarwal, a partner at Altavista Investment Management, a shareholder in Vodafone, arguing that it would temper competition in the space. “This starts the process of repair for the industry structure and will lead to higher industry profitability.”
The deal terms imply an enterprise value of $12.4bn for Vodafone India and $10.8bn for Idea Cellular. Vodafone will own 45.1 per cent of the merged entity, after selling a 4.9 per cent stake to the Aditya Birla group, Idea’s controlling shareholder, for $579m cash. Vodafone retains its subsidiary’s 42 per cent stake in Indus Towers, India’s largest telecom masts operator, and will explore a sale.
Vodafone shares fell 0.6 per cent yesterday and Idea shares by 10 per cent — the latter drop reflecting investor frustration, after speculation that Vodafone would offer a takeover premium, said Chris Lane, an analyst at Bernstein. The companies confirmed merger talks in January, after months of speculation.
Sitting alongside Mr Colao, Aditya Birla chairman Kumar Mangalam Birla — who will also chair the merged entity — stressed the complementary fit of Idea’s foothold in smaller towns and rural areas, and Vodafone’s strength in major cities such as Mumbai.
But a person with direct knowledge of the Idea board’s deliberations said that the advent of Jio had been a key factor. “Normally, you don’t enter businesses to merge — you like to carry your own flag,” the person said. “This would have been difficult one or two years ago, because both companies were doing well by themselves. But you need to protect your market share from someone who’ s being predatory, and that eat sup a lot of financial resources .”
Mr Ambani’s venture faces its biggest test next month, when it begins charging for the first time, a move likely to lead to the loss of many of the 100m Indians signed up for its free service.
But analysts at Edelweiss Financial Services predict that Jio will still boast 81 m subscribers a year from now, noting that its flagship product — a year’s unlimited voice and data services for Rs303 ($4.60) per month, plus a Rs99 joining fee — is still far more attractive for heavy data users than rival offerings.
Forced to compete with Jio’s generous pricing and relentless infrastructure investment, Vodafone’s and Idea’s stated logic for the deal rests heavily on the cost savings that they will gain by eliminating overlaps in operating costs and capital expenditure. This will yield annual savings of $2.1bn by the fourth full year after the deal’s expected completion next year, Vodafone said.
The UK company’s market valuation should also be boosted by the transparency that will come from deconsolidating its Indian holdings into a separate listed entity, while reducing Vodafone’s net debt by $8.2bn, said Jonathan Dann, an analyst at RBC Capital Markets. The deal “ringfences what is likely to remain a volatile asset, given [Jio’s] liberal use of low prices ”, he wrote to clients.
The merger still faces regulatory hurdles, with Indian rules mandating that no operator should control more than 50 per cent of the market by revenue or subscriber numbers in any of India’s 22 telecom “circles” (service areas), or spectrum above specified limits.
But the new entity faces a formidable challenge, said Jayanth Kolla, cofounder of the consultancy Convergence Catalyst. “Their optical fibre network is the biggest chink in their armour,” he said, predicting that the merged company would need to invest heavily to keep pace with Jio’s investment in the mobile broadband network. See Lex
‘We consider this merger to be a game changer for the Indian telecom industry’