Eco Reliance Communication

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Microeconomics Case Study

Telecom Sector & Reliance Communications

GROUP O

Sandeep AgrawalRagini Iyer (52)Rishabh Khandhar (58)Sandeep Agrawal (70)

Sria Majumdar (83)Sushant Gupta (87)Abhishek Singh (96)


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Group O Economics Project 1 | P a g e

O utline

1. Outline

2. Executive Summary

3. Telecom Sector Overview

4. Reliance Communications

5. Conclusion

6. References


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Ex ecutive SummaryIndian telecommunication Industry is one of the fastest growing telecom markets in the

world. The mobile sector has grown from around 10 million subscribers in 2002 to reach 150

million by early 2007 registering an average growth of over 90%. The two major reasons

that have fuelled this growth are low tariffs coupled with falling handset prices. The

regulatory changes and reforms by successive Indian governments have given a huge boost

to the sector.

From the point of view of economics, the market structure of the telecom sector is an ideal

case study for oligopoly markets with about 13 players. The major players include Airtel,

Vodafone, Reliance Communications, Idea, BSNL etc. The leaders in terms of market share

as of 2009 were Airtel, Reliance Communications and MTNL in that order. However with

new entrants such as Docomo and Uninor, the market has become very dynamic and

unpredictable with leaders changing every quarter. In this sector, the average revenue per

user (ARPU) becomes a very important factor for profit maximization. Also the rural and

urban penetration have to be considered as critical factors for analysis as companies are

targeting bottom-of-the-pyramid customers. Various critical factors such as ARPUs,

investments, costs etc have been considered to analyse the sector.

The second part of the study deals with Reliance Communications in particular. We have

tried to see how certain factors such as expenditure, profit, labour and capital are related.

Also, on the basis of our analysis we have projected the performance of Reliance

Communications as of 2011. In this sector, the effect of government policies is of vital

importance. We have tried to analyse the effect of information, and pricing strategies as

well as take on a brief discussion on 3G strategy.


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Telecom Sector O verview

During FY09, India's mobile subscriber base grew by 50% YoY, from 261 m to 391 m, while

the fixed subscriber base declined by about 4%, from 39.4 m to about 37.9 m. Key Points

FY09 saw the continuance of strong growth for the Indian telecom market, which witnessed

a 49% YoY increase in its subscriber base during the 12-month period. At the end of March

2009, the country s total telecom subscriber base (fixed plus mobile) stood at about 429 m.

The tele-density level stood at about 36% by the end of the fiscal.

Growth remained robust in the GSM mobile space, with the same growing its subscriber

base by 96 m, thus contributing to about 70% of the total incremental subscriber addition

for the entire Indian telecom market. After a strong 76% YoY increase in subscriptions

during FY08, the GSM industry recorded another good performance during FY08, growin g

subscriber base by 50% YoY to about 289 m.

Key Points

y Supply: Intense competition has resulted in prompt service to the subscribers.

y Demand: Given the low penetration levels in the country and continuously falling tariffs,

demand will continue to remain higher in the foreseeable future across all the segments

y Barriers to entry: High capital investments, well-established players who have a

nationwide network, license fee, continuously evolving technology and falling tariffs.

y Bargaining power of suppliers: Improved competitive scenario and commoditisation of

telecom services has led to reduced bargaining power for services providers.

y Bargaining power of customers: A wide variety of choices available to customers both in

fixed as well as mobile telephony has resulted in increased bargaining power for thecustomers.

y Competition: Competition has intensified with the entry of new cellular players in select

circles. Reducing tariffs will hurt the new entrants as they will be unable to recover their

high capital investments.


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Sector Overview

Liberalization and reforms in Telecom sector

Liberalization in the Telecom sector started with revoking the Telecom manufacturing

equipment licence in the year 1991. Automatic foreign collaboration was permitted with 51

% equity by the collaborator. In 1992, Value added services were opened for priva te and

foreign players on franchise or license basis. These included cellular mobile phones, radio

paging, electronic mail, voice mail, audiotex services, videotex services, data services using

VSAT's, and video conferencing.

The Government announced a National Telecom Policy 1994 in September 1994. It opened

basic telecom services to private participation including foreign investments. 2. Foreign

equity participation up to 49 per cent was allowed in basic telecom services, radio paging

and cellular mobile. For value added services the foreign equity cap was fixed at 51 per cent.

Eight cellular licensees for four metros were finalized by 1995. TRAI was set up in 1997 as an


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autonomous body to separate the regulatory functions from policy formulations and

operational functions. An agreement between Department of Telecommunication (DoT) and

financial institutions to facilitate funding of cellular and basic telecom projects was reached.

External Commercial Borrowing (ECB) limits on telecom projects made flexible with an

increased share from 35 per cent to 50 per cent of total project cost. By the year 1999, FDI

up to 49 per cent of total equity, subject to license, permitted in companies providing Global

Mobile Personal Communication (GMPC) by satellite services .

Between 1999 and 2000, National Telecom Policy 1999 was announced which allowed

multiple fixed Services operators and opened long distance services to private operators.

TRAI reconstituted: clear distinction was made between the recommendatory and

regulatory functions of the Authority. DOT/MTNL was permitted to start cellular mobiletelephone service. Department of Telecom Services was set up to separate service providing

functions from policy and licensing functions. A package for migration from fixed license fee

to revenue sharing offered to existing cellular and basic service providers. TRAI Act was

amended in 2001. The amendment clarified and strengthened the recommendatory power

of TRAI, especially with respect to the need and timing of introduction of new services

provider, and in terms of licenses to a services provider. Department of Telecom Services

and Department of Telecom operations were corporatized by creating Bharat Sanchar

Nigam Limited. Communication Convergence Bill, 2001 was introduced in August 2001.

Competition was introduced in all services segments.

TRAI recommended opening up of market to full competition and introduction of new

services in the telecom sector. Usage of Voice over Internet Protocol permitted for

international telephony service. International long distance business opened for

unrestricted entry. Telephony on internet permitted in April 2002. TRAI finalized the System

of Accounting Separation (SAS) providing detailed accounting and financial system to be

maintained by telecom service providers. Unified Access Service Licenses regime for basic

and cellular services was introduced in October 2003. This regime enabled services

providers to offer fixed and mobile services under one license. Consequently 27 licenses out

of 31 licenses converted to Unified Access Service Licenses. Budget 2004 -05 proposed to lift

the ceiling from the existing 49 per cent to 74 per cent as an incentive to the cellular


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Group O Economi cs Pro jec

6 | P a g e

op erator s to fall in lin e with th e new unifi e

licensing norm. 'La st Mile ' linkag es permitt e

in

April 2004 within th e local ar ea for I SP's for es tabli shing th e ir own la st mil e to th e ir

custom ers. Indoor u se of low pow er e uipm ent s in 2.4 GHz band d e- license d from Augu st

2004 .

Budg e t 2005-2006 clear ed a hik e in F I ce iling to 74 pe r cent from th e earlier limit of 49 pe r

cent. 100 per cent F I was pe rmitt ed in th e ar ea of t e lecom e uipm ent manufa cturing and

pro vision of IT enabl ed se rvices . Annual li cense f ee for National Long Di stan ce (NLD) as we ll

as Int e rnational Long Di stan ce (ILD) licenses redu ced to 6 pe r cent of Ad justed Gro ss

Reve nu e (AGR) with e ff ec t from 1st Januar y 2006 . BSNL and MTNL laun ched th e 'On e-India

Plan' with eff ec t from 1s t Mar ch 2006 whi ch enabl e th e custom ers of BSNL and MTNL to call

from on e end of India to oth e r at th e cost of R e 1 pe r minut e

an y tim e of th e da y to phon e .

Impo r

ime li es

TelecomManufa cturingEquipm ent DE

licensed in 1991 .

For eign equit y parti cipation up to

49 per centTRAI WAS SET UP

DOT/MTNL was

permitt ed to start

ce llular

TRAI Act wa s

am end ed

TRAI recomm end ed

op ening up of

mark e t

Telephon y on

int ern et p ermitt ed

in April 2002 .

to lift th e ce iling

from th e e isting 49

per cent to 74 per

'On e-India Plan'

and fi ve year plan

detail s


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11th plan (2007-20 1 2):

FDI in Telecom sector has increased in recent years with value of 81.62 billion with share of

10% in total inflow during January 2000 to June 2005. This is mainly in telecom services and

not in telecom manufacturing sector. Therefore, it is essential to enhance the prospect for

inflow of increased funds. The NTP 1999 sought to promote exports of telecom equipments

and services. But till date export of telecom equipment remains minimal. Most of the state-

of-the-art telecom equipments including mobile phones are imported from abroad. There is

thus immense potential for indigenous manufacturing in India. Certain measures like

financial packages, formation of a telecom export promotion council, creation of integrated

facilities for telecom equipment through SEZ and encouraging overseas vendors to set up

facilities in India, are required for making India a hub for telecom equipment manufacturingand attract FDI. The telecom sector has shown robust growth during the past few years. It

has also undergone a substantial change in terms of mobile versus fixed phones and public

versus private participation. The following table and discussions from the report of

the working report on the telecom sector for the 11th plan (2007-2012) will show the

growth of telecom sector since 2003.

M ajor p layers

BSNL

On October 1, 2000 the Department of Telecom Operations, Government of India became a

corporation and was renamed Bharat Sanchar Nigam Limited (BSNL). BSNL is now India s

leading company in Telecommunications sector and the largest public sector undertaking. It

has a network of over 45 million lines covering 5000 towns with over 35 million telephone

connections.

The state-controlled BSNL operates basic, cellular (GSM and CDMA) mobile, Internet and

long distance services throughout India (except Delhi and Mumbai). BSNL will be expanding

the network in line with the Tenth Five-Year Plan (1992-97). The aim is to provide a

telephone density of 9.9 per hundred by March 2007. BSNL, which became the third

operator of GSM mobile services in most circles, is now planning to overtake Bharti to


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become the largest GSM operator in the country. BSNL is also the largest operator in the

Internet market, with a share of 21 per cent of the entire subscriber base.

BHARTI

Established in 1985, Bharti has been a pioneering force in the telecom sector with many

firsts and innovations to its credit, ranging from being the first mobile service in Delhi, first

private basic telephone service provider in the country, first Indian company to provide

comprehensive telecom services outside India in Seychelles and first private sector service

provider to launch National Long Distance Services in India. Bharti Tele-Ventures Limited

was incorporated on July 7, 1995 for promoting investments in telecommunications

services. Its subsidiaries operate telecom services across India. Bharti s operations arebroadly handled by two companies: the Mobility group, which handles the mobile services

in 16 circles out of a total 23 circles across the country; and the Infotel group, which handles

the NLD, ILD, fixed line, broadband, data, and satellite -based services. Together they have so

far deployed around 23,000 km of optical fiber cables across the country, coupled with

approximately 1,500 nodes, and presence in around 200 locations. The group has a total

customer base of 6.45 million, of which 5.86 million are mobile and 588,000 fixed line

customers, as of January 31, 2004. In mobile, Bharti s footprint extends across 15 circles.

MTNL

MTNL was set up on 1st April 1986 by the Government of India to upgrade the quality of

telecom services, expand the telecom network, introduce new services and to raise revenue

for telecom development needs of India s key metros Delhi, the political capital, and

Mumbai, the business capital. In the past 17 years, the company has taken rapid strides to

emerge as India s leading and one of Asia s largest telecom operating companies. The

company has also been in the forefront of technology induction by conve rting 100% of its

telephone exchange network into the state-of-the-art digital mode. The Govt. of India

currently holds 56.25% stake in the company. In the year 2003-04, the company's focus

would be not only consolidating the gains but also to focus on new areas of enterprise such

as joint ventures for projects outside India, entering into national long distance operation,


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VSNL

On April 1, 1986, the Videsh Sanchar Nigam Limited (VSNL) - a wholly Government owned

corporation - was born as successor to OCS. The company operates a network of earth

stations, switches, submarine cable systems, and value added service nodes to provide a

range of basic and value added services and has a dedicated work force of about 2000

employees. VSNL's main gateway centers are located at Mumbai, New Delhi, Kolkata and

Chennai. The international telecommunication circuits are derived via Intelsat and Inmarsat

satellites and wide band submarine cable systems e.g. FLAG, SEA-ME-WE-2 and SEA-ME-WE-

3.

HUTCH/ VODAFONE

Hutch s presence in India dates back to late 1992, when they worked with local partn ers toestablish a company licensed to provide mobile telecommunications services in Mumbai.

Commercial operations began in November 1995. Between 2000 and March 2004, Hutch

acquired further operator equity interests or operating licences. With the complet ion of the

acquisition of BPL Mobile Cellular Limited in January 2006, it now provides mobile services

in 16 of the 23 defined licence areas across the country. Hutch India has benefited from

rapid and profitable growth in recent years. it had over 17.5 mi llion customers by the end of

June 2006. In late 2007 it was bought by the English giant Vodafone and renamed Vodafone -

Essar.

IDEA

Indian regional operator IDEA Cellular Ltd. has a new ownership structure and grand designs

to become a national player, but in doing so is likely to become a thorn in the side of

Reliance Communications Ltd. IDEA operates in eight telecom circles, or regions, in

Western India, and has received additional GSM licenses to expand its network into three

circles in Eastern India -- the first phase of a major expansion plan that it intends to fund

through an IPO, according to parent company Aditya Birla Group.


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C om p etition in Telecom Sector

Monopoly of BSNL:

During these 50 years after India s independence, the TRAI reports have observed that the

growth of tele-density has been a mere 1.92%.

Monopoly by BSNL has been one of the important reasons which attribute to low growth

rate. The telecom sector was a monopoly until reforms were introduced and liberalization of

the economy was effected in the early 90s. BSNL was the incumbent monopoly operator in

the telecom sector. Monopolies do not have sufficient incentive to perform. The incumbent

firms are generally complacent because there is no threat of new entry. Since the market

rates are set by the monopoly, and since the consumer demands are highly inelastic, due to

the absence of alternatives, the rates are usually unaffordable by the common public. All

these reasons attribute to poor performance and very poor delivery to the con sumers.

Duopoly:

Bharti made its foothold in the NLD market, garnering revenues of Rs 430 crore from its NLD

services business. At the end of 2002 03, the company s NLD services are operational

almost throughout the country except in the Northeast and Jammu & Kashmir. Ever since

Bharti forayed into NLD, most of its revenues have been coming from cellular operators


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scattered all across the country. It tied up with almost all major service providers in the

country for its NLD offering. However, eventually most of them have gone back to BSNL as

the latter is offering the services at cheaper rates. BSNL is currently charging Rs 1.10 per

minute for carrying STD calls, as compared to Bharti s rate of Rs 1.49 per minute. Moreover,

BSNL has also been offering discounts of up to 10 percent to cellular firms. That apart, BSNL

had allowed the firms to fix their retail tariff, and thus maximize their margins. Bharti, on

the other hand, had fixed STD tariffs at Rs 2.99.

Nevertheless, Bharti managed to get traffic of 100 million minutes per month last year.

Oligopoly:

As NLD licenses were granted to Bharti Telesonic on 29 November 2001, Reliance on 28January 2002 and VSNL on 8 February 2002. VSNL too was granted the NLD license in lieu of

giving up its international long-distance (ILD) monopoly in 2002 ahead of the scheduled date

of 2004. With BSNL was forced to go for a major cut, following the reduction in tariffs from

private players. BSNL announced its first rate cut last year when it brought down peak time

calling charges to a maximum of Rs 9 per minute. This was significantly lower than Rs 24

charged earlier. These rate cuts were announced when Bharti Telesonic announced

competitive rates for its IndiaOne long-distance service. The second round of rate cuts came

after Reliance Infocomm announced long-distance tariffs at Rs 1.20 per three minutes (40

paise per minute). Because of the steep drop in tariffs, BSNL s revenues from NLD services

also showed southward movement to end up at Rs 5,500 crore in 2002-03, a decrease of

around Rs 2,000 crore from FY 2001-02.

Though BSNL has been corporatized for almost three years, it still does not have a system in

place for separating its revenues category-wise. This is a legacy from its monopoly days.

Being the incumbent operator, with a near monopoly on the basic and STD market, BSNL did

not separate its revenue streams. It instead chose to provisionally assess the revenues from

NLD services at 30 percent of its total revenues, and use the same for calculation of license

fees. DoT has now mandated that separate revenue streams ought to be provided for

license fee calculation.


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India's rural telecom sector is poised for explosive growth in the next five to 10 years,

grabbing a 40 per cent share of the new market, a study released on We dnesday said.

Market share as on September 09

The graph below shows the customer base split in the industry as of February 2010


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Reliance Communications

Rural Impac t

Of the estimated new 250 million Indian wireless users, in next 5-10 years approximately

100 million will be from rural areas," said the study by the Federation of Indian Chambers of

Commerce and Industry (Ficci) and Ernst and Young.

The paper said operators have demonstrated they can achieve profitability by reducing fixed

costs, controlling variable costs and carefully tailoring services to the requirements of their

customers, reports IANS. A similar model with minor customisation could be emulated in

the rural areas. The government will likely phase out the Access Deficit Charge (ADC) levy

imposed on private players in rural areas and roll out new incentives for mobile networks in

rural India, the report said. It observed that passive infrastructure sharing and spectrum

hoarding cess on defaulter operators who fail to meet their roll -out obligations are

illustrations of proactive government initiative.

Cu rrent Uncertainty d u e to Reg u latory Environment

The recent reduction in profit in the telecom industry has been due to uncertain regulatory

actions. Allocation of GSM and CDMA licences has lead to extreme competition and over

capacity, which has resulted in drastic fall in the tariffs. Also the spectrum pricing by TRAI


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has created uncertainty over Capping of spectrum and shifting from more efficient 900MHz

spectrum to 1,800MHz spectrum, once the initial license period expires.

Performance of Reliance Communica t ion on Nif t y in las t 2 years

The underperformance of reliance communication on Nifty has been on account of:

a) Declining tariffs, due to the hyper competitive scenario, as new players launch GSM

operations

b) Uncertainty on 2G spectrum s pricing, regulatory aspects in telecom sector

c) Higher leverage due to 3G and BWA auction.

N ew p layers and b u siness model How viable are they?

With the Government allowing CDMA operators to launch GSM operations, the telecomspace in India has become hyper competitive with around 12-13 operators as compared to

4-5 in other countries. We believe that with low ARPUs and high capital expenditure they

will find it increasingly difficult to fund the losses. Though the investments by the new

players are likely to be lower than that of the older players, due to passive infrastructure

sharing, we believe at the existing tariffs, the ROI for the new players would be low.


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This is expected to result in the new operators not having the financial muscle to sustain

future tariff wars if any. In our view any further tariff reduction will only hasten the

consolidation in the industry.

With the tariffs declining and Reliance communication increasing its coverage, the under -

penetrated B and C category circles are growing faster than the metros and A category

circles, where the penetration rate is high. However, the ARPUs and MOUs in these areas

are lower d ue t o lower per capi t a income in th ese circles, th ereby resul t ing in a d ecline in

ARPUs an d ARPMs .


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1 Sep 20 1 0: ( Launc h of 3G Lab)

Reliance Communications established a fully-integrated 3G Innovation Lab with end-to-end

wireless network infrastructure. RCOM s 3G Innovation Lab will involve a community of

content developers, product innovators, technology platforms enablers, device

manufactures and OEMs. It will aid in demystifying 3G technology and make it simpler for

adoption amongst cross-section of customer groups.

Reliance Communications and Acer today announced the launch of a Netbook with

Embedded Wireless Broadband connectivity. Reliance has taken the lead in bringinginnovations in the mobile data space. Each of these innovations has successfully met specific

needs of our customers and this has resulted in significant growth in our mobile data

business.

Externalities for Reliance Telecomm u nications

Network Externalities is one of the most important externality in case of any

telecommunication company. This is a positive externality as the purchase of telecom

services by a number of people leads to bandwagon effect resulting in large number of

buyers. Network effects become significant after a certain subscription percentage has been

achieved, called critical mass. The existence of a number of such networks in the

telecommunication sector also discourages monopoly.


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Group O Economi cs Pro jec t 19 | P a g e

E conom ic s of Info r mat ion

Economi cs of information i s an indi spensible aspec t of an y bu siness eve n mor e so for on e

that e ists in a highl y comp e titi ve oligopoli stic mark e t. Information h e lps in th e pri cing

mechani sm, Signaling, Scree ning and bundling. For Re lian ce , th e mo st importantinformation would b e about

y C omp e titor mo ves and pri cing m ec hani sms

y Gove rnm ent r egulator y policies

y C on sum er tr end s

y Georgraphi cal, Socio- cultural information

The compan y ha s to k ee p a continuou s tra ck of information that i s flowing from all th ese

quart ers to tak e ad vantag e of th e information.

Concl usi on


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References

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