Subscriber Base (in million) ICRA Rating Feature March 2009 ICRA Rating Feature March 2009 TELECOM INFRASTRUCTURE INDUSTRY IN INDIA Contact: Anjan Ghosh aghosh@icraindia.com +91-22-30470006 Vikas Aggarwal vikas@icraindia.com +91-124-4545300 Nidhi Marwaha nidhim@icraindia.com +91-124-4545337 1.0 India is among the fastest growing mobile markets in the world: India, the second largest mobile market in the world, is also among the fastest growing mobile markets globally. The total number of mobile subscribers in India (i.e., the subscriber base) has increased from Chart 1: Growth in Indian Mobile Subscriber Base 6.4 million in 400 March 2002 to 350 around 350 million 346.9 in December 2008, at a compounded 300 250 261.1 annual growth rate (CAGR) of 81%, 200 150 166.1 aided by a 90.1 100 significant increase in network 0.9 1.2 1.9 3.6 6.4 13.0 33.7 52.2 50 coverage and a 0 continual decline in tariffs and handset prices. Source: Telecom Regulatory Authority of India (TRAI) Database Table 1: Mobile Subscribers as Percentage of Total Telephone Subscribers Region Growth in Mobile Subscribers as % of Mobile Base Total Telephone Subscribers CAGR (December 2007) (2002-07) Africa 48.9% 89.3% Americas 20.7% 69.7% Asia 27.1% 70.0% Europe 16.8% 72.9% Oceania 11.7% 69.2% India 78.2% 85.6% Source: International Telecommunication Union (ITU) Database Website: www.icra.in India, a relatively late entrant into mobile services, has benefited from a significant decline in mobile network costs during the last three to four years. As compared with a capital cost of US$50-90/subscriber to provide mobile service, it costs as much as US$200-350/subscriber to provide fixed-line services. This and the added benefit of mobility have led to stagnation in the total fixed line subscriber base, which along with the significant growth in the mobile base has translated into India having one of the highest ratios globally of mobile subscribers to total telecom subscribers.
Circle (Category) Telecom Infrastructure Industry in India March 2009 2.0 Despite the growth, mobile penetration remains moderate: As on end September 2008, India had a mobile penetration of around 27%, which is relatively lower as compared to other countries as depicted in Chart 2. Given the moderate penetration levels at present, mobile growth in India is expected to continue in the short to medium term albeit at a lower level because of the larger base effect. Chart 2: Mobile Penetration Levels: India vis-à-vis World Spain 109.90% Malaysia 93.90% France 91.30% Japan 85.60% US 84% 55.90% Pakistan India 27.32% 0% 20% 40% 60% 80% 100% 120% Mobile Penetration Source: Market Sources Note: Mobile penetration data for US pertains to June 2008 3.0 Growth expected to be led by B and C Class circles: The growth in the domestic telecom industry has largely been concentrated in the Metros and Class A circles in the past decade, with coverage reaching around 90% and 35%, respectively. However, coverage in the Class B and Class C cities is still low at 15-25%. Moreover, within these circles growth has largely been concentrated in the urban areas while penetration in the rural areas remains lower. Thus future growth is likely to come largely from Class B and C circles and rural areas. Keeping this in view, larger players like Bharti Airtel Limited, Reliance Communications Limited, and Bharat Sanchar Nigam Limited (BSNL) are largely focusing on increasing their geographical coverage in Class B and C circles. Chart 3: Circle-wise Mobile Penetration (Dec 08) Chart 4: Circle-wise Population vs. Mobile Subscriber Base (Dec 08) Delhi (Metro) Mumbai (Metro) Chennai (Metro) Kolkata (Metro) Karnataka (A) Andhra Pradesh (A) Tamil Nadu (A) Gujarat (A) Maharashtra (A) Kerala (B) West Bengal (B) Punjab (B) Haryana (B) Rajastan (B) Madhya Pradesh (B) Uttar Pradesh (B) Himachal Pradesh (C) Orissa (C) Jammu & Kashmir (C) Bihar (C) Assam (C) North-East (C) 16% 20% 20% 19% 22% 14% 16% 36% 33% 37% 37% 28% 44% 35% 30% 39% 37% 48% 70% 99% 95% 97% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Mobile Penetration Low penetration areas offer higher growth potential Mobile Subscriber Base (Dec 08) Source: TRAI Database, ICRA s estimates Note: Mobile penetration does not account for one person having more than one connection Source: Ministry of Statistics & Programme Implementation Database, TRAI Database, ICRA s estimates ICRA Rating Services www.icra.in Page 2
Internal Rate of Return Dec-05 Mar-06 Jun-06 Sep-06 Dec-06 Mar-07 Jun-07 Sep-07 Dec-07 Mar-08 Jun-08 Sep-08 ARPU (Rs. per month) MoU (per Subscriber per month) Dec-05 Mar-06 Jun-06 Sep-06 Dec-06 Mar-07 Jun-07 Sep-07 Dec-07 Mar-08 Jun-08 Sep-08 ARPU (Rs. per month) MoU (per Subscriber per month) Telecom Infrastructure Industry in India March 2009 4.0 Addition of low usage subscribers and competitive pressures lead to fall in ARPUs: With growth coming from the lower economic strata and on account of strong competition in the mobile industry, average revenues per user (ARPUs) have moved south over the years. The movements in the ARPUs and minutes of usage (MoUs) for global system for mobile communications (GSM) and code division multiple access (CDMA) operators are presented in Charts 5 and 6. Chart 5: All-India ARPU & MoU Trend GSM Chart 6: All-India ARPU & MoU Trend CDMA 450 400 350 300 250 200 150 100 550 500 450 400 350 300 450 400 350 300 250 200 150 100 550 500 450 400 350 300 ARPU MoU ARPU MoU Source: TRAI Database Source: TRAI Database 5.0 Conservation of capital - the need of the industry: In the past, with costs being amortised over a larger base and steps being taken to rationalise costs, Chart 7: Impact of Declining ARPUs on IRRs at Different EBITDA Margin Levels most telecom operators were able to improve their earnings before interest, taxes, depreciation 25% & amortisation (EBITDA) margins. However, in 20% the current market conditions, the margins and 15% return indicators may come under pressure as 10% ARPUs continue to fall. The chart alongside broadly illustrates the impact of declining ARPUs on the internal rate of return (IRR) at different EBITDA margins. Thus, for new operators especially whose margins are low because of the high set-up costs, operations can be unviable at the current level of incremental ARPUs. 5% 0% -5% -10% -15% 200 175 150 125 100 75 ARPUs (Rs. Per month) IRR at 25% margin IRR at 30% margin IRR at 40% margin Source: ICRA s estimates; Assuming Capital Expenditure of USD 70 per subscriber and 1 USD=Rs.50 6.0 Competition set to intensify further with market liberalisation: The Indian mobile sector is an intensely competitive industry, featuring 10 mobile operators, of which four, namely Bharti Airtel Chart 8: Market-share Distribution Mobile Subscribers (Dec 08) Limited, Reliance Communications Limited, Sistema Shyam, HFCL, 0.1% BPL/ Loop, Aircel, 4.6% 0.1% 0.6% Vodafone Essar Limited and BSNL, together Idea + Spice, Bharti Airtel, account for almost three-fourths of the entire 11.0% 24.7% mobile market share. This is also partly on account of the fact that these four operators have their presence in a larger number of circles as Vodaone, 17.6% compared with other players. With licences being granted to some of the existing operators for new circles and also to new entrants, competition is expected to intensify further. The competitive matrix is illustrated in Chart 9. Tata Teleservices, 9.2% Source: TRAI Database BSNL/ MTNL, 14.5% Reliance Communication s, 17.7% ICRA Rating Services www.icra.in Page 3
Number of Circles Number of Circles Telecom Infrastructure Industry in India March 2009 Chart 9: Competitive Matrix Pan-India Operators ---------------------------------------------------------------------------------- Regional Operators ---------------------------------------------------------------------------------- New Entrants Existing base of operations Subscriber Base (million) - Dec'08 Reliance BSNL/ Sistema Swan Bharti Airtel Communications MTNL Tata Tele Vodaone Idea/ Spice Aircel HFCL Shyam BPL/ Loop Unitech Telecom Stel Datacom Total GSM GSM & CDMA GSM & CDMA CDMA GSM GSM GSM CDMA CDMA GSM GSM GSM GSM GSM 85.7 61.3 50.4 31.8 60.9 38.0 16.1 0.4 0.4 1.9 0 0 0 0 346.9 25 20 15 10 5 0 Licensed Circles (Dec'07 vis-à-vis Sep'08) 25 20 15 10 5 Competitive Positioning - New Entrants 23 23 23 23 13 21 22 17 14 13 6 6 0 Sistema Shyam BPL/ Loop Unitech Datacom Swan Telecom Stel # of circles licensed (Dec'07) New circles licensed between Jan'08-Sep'08 Licensed circles Start-up spectrum available LEGEND: Licensed No Licence Category Circles Delhi Mumbai Metros Chennai Kolkata Maharashtra Gujarat Class 'A' Circles Andhra Pradesh Karnataka Tamil Nadu Kerala Punjab Haryana Uttar Pradesh (W) (including Uttaranchal) Class 'B' Circles Uttar Pradesh (E) Rajasthan Madhya Pradesh (including Chhattisgarh) West Bengal (including Andaman & Nicobar) Himachal Pradesh Bihar (including Jharkhand) Orissa Class 'C' Circles Assam North East Jammu & Kashmir Source: TRAI Database, ICRA s estimates NL Circle-wise Market Share of Existing Wireless Operators (December 2008) Reliance BSNL/ Sistema Swan Circle-wise expected Bharti Airtel Communications MTNL Tata Tele Vodaone Idea/ Spice Aircel HFCL Shyam BPL/ Loop Unitech Telecom Stel Datacom number of operators 22.4% 15.7% 9.8% 21.5% 19.2% 11.4% NL NL 12 16.0% 20.6% 13.0% 12.6% 24.6% 1.9% NL 11.4% NL 12 23.5% 15.6% 12.0% 4.9% 17.1% 26.9% NL NL 12 22.1% 23.8% 12.0% 14.1% 24.2% 3.8% NL NL NL 11 19.7% 13.1% 13.3% 14.6% 14.6% 24.7% NL NL 12 17.6% 14.0% 11.8% 5.8% 34.2% 16.6% NL NL 12 30.2% 18.1% 11.1% 10.9% 12.9% 16.7% NL NL 12 43.6% 16.0% 11.2% 6.2% 16.1% 6.9% NL NL 12 22.9% 13.4% 12.4% 2.9% 19.1% 29.3% NL NL 12 13.7% 17.0% 19.5% 4.9% 18.7% 26.2% NL NL 12 27.4% 9.6% 18.2% 9.3% 15.1% 17.5% 2.9% NL NL 12 14.1% 14.6% 17.0% 14.1% 23.2% 17.0% NL NL 12 12.4% 17.5% 14.2% 11.4% 23.2% 21.4% NL NL 12 23.0% 16.9% 22.4% 5.9% 24.9% 7.0% NL NL 12 31.2% 11.7% 14.5% 12.0% 22.9% 5.8% NL 1.8% NL 12 23.0% 30.7% 15.7% 6.2% 0.5% 23.9% NL NL NL 11 23.0% 19.9% 13.0% 6.4% 30.5% 7.2% NL NL NL 11 30.5% 31.1% 25.7% 4.3% 0.3% 4.1% 3.9% NL NL 12 37.7% 29.8% 14.5% 8.4% 1.0% 1.5% 7.1% NL NL 12 34.9% 25.7% 18.7% 8.1% 2.4% 10.2% NL NL 12 25.0% 25.7% 17.5% 0.3% 1.3% 30.1% NL NL 12 28.3% 15.7% 23.1% 0.0% 1.6% 31.2% NL NL 12 48.6% 0.0% 31.6% 0.2% 0.0% 19.5% NL NL 12 ICRA Rating Services www.icra.in Page 4
7.0 Passive infrastructure sharing (tower-sharing) gaining signficance: Passive infrastructure being one of the most important components of a mobile network, the same has been a critical area of operations for telecom companies in the past. However, with increasing competition posing an urgent need for telecom companies to expand their coverage and sharpen their focus on core operations so that they can sustain and improve their market position, passive infrastructure has assumed the status of an independent industry during the past few years. Chart 10: Constituents of a Mobile Network Mobile Networks Passive Infrastructure or Non-Electronic Infrastructure Backhaul Active Infrastructure or Electronic Infrastructure The backhaul part of the network consists of the intermediate links between the core of the network and the various sub-networks Key components include: - Steel tower/antenna mounting structures - Base tower station shelter - Power supply - Battery bank - Invertors - Diesel generator (DG) set for power backup - Air conditioner - Fire extinguisher - Security cabin, etc. Key components include: - Spectrum (radio frequency) - Base tower station - Microwave radio equipment - Switches - Antennas - Transceivers for signal processing and transmission, etc. According to ICRA s estimates, passive infrastructure accounts for 60-70% of the total cost of setting up a wireless network. Overall, sharing of infrastructure, passive as well as active, is beneficial for all parties involved as it brings along significant operational as well financial savings, thus enabling the companies to minimise duplication of efforts and costs and improve profitability. ICRA Rating Services www.icra.in Page 5
7.1 Functioning of a Tower Infrastructure Company: A tower infrastructure company provides passive infrastructure on a sharing basis to telecom operators. The role of a tower infrastructure company may be summarised as follows: - Site planning, keeping in view the network rollout plans of prospective customers. Figure 1: Telecom Tower Structure with Key Components Microwave Feeders Antennas - Site acquisition, including entering into long-term agreements with land owners. - Obtaining of necessary regulatory approvals. - Erection and commissioning of tower and allied equipment. - Provision of support services such as backup power, air-conditioning and security. Steel Tower Shelter Room DG Set - Provision of turnkey solutions to telecom companies such as sourcing of equipment, testing and maintenance. 7.1.1 Types of Towers Telecom towers are broadly classified on the basis of their placement as Ground-based and Roof-top. (i) Ground-Based Tower: Erected on the ground, ground-based towers (GBTs) are taller (typically 200 to 400 feet) and are mostly used in rural and semi-urban areas because of the easy availability of realestate space there. GBTs involve a capital expenditure in the range of Rs. 2.4 to 2.8 million, depending on the height of the tower. (ii) Roof-Top Tower (RTT): Roof-top towers (RTTs), which are generally placed on the roofs of highrise buildings, are shorter (than GBTs) and more common in urban and highly populated areas, where there is paucity of real-estate space. Typically, these involve a capital expenditure of Rs. 1.5 to 2 million. It is the height of a telecom tower that determines the number of antennas that can be accommodated, which in turn determines the capacity of the towers, apart from factors such as location and geographical conditions (wind speeds, type of terrain, etc.). Hence, typically, while GBTs can accommodate up to six tenants, RTTs can accommodate two to three tenants. 7.1.2 Master Service Agreements A tower infrastructure company normally enters into separate Master Service Agreements (MSAs) with its occupants/tenants. MSAs are signed between tower infrastructure companies and telecom operators (tenants), and clearly spell out the overall tower requirements of the tenants, the pricing terms, and other binding terms and conditions between the two parties. ICRA Rating Services www.icra.in Page 6
Broadly, an MSA specifies the following terms and conditions: Table 2: Key Terms under MSAs between Tower Infrastructure Companies and Telecom Operators Rental Rentals are specified, depending on factors such as: - Type of tower (GBT or RTT): Tower rentals are normally higher for GBTs as compared with RTTs. In some cases, the rentals may also be computed as a percentage of the capital invested. - Location: In the case of strategically located sites (congested areas, city centre, highways) and in hilly terrains, tower infrastructure companies may charge a premium over the standard rentals. - Level of sharing on towers: As sharing increases, tower infrastructure companies usually pass on a percentage of the cost saving to their tenants. At present, discounts range from 10 to 20% for twin sharing and from 20 to 30% for triple sharing. - Tenure: Tower infrastructure companies usually offer more attractive terms for longer tenure MSAs as they lower occupancy risks for them. - Number of sites: Tower infrastructure companies may also offer discounts on standard rentals, which may range from 2 to 5%, depending on the number of sites to be rolled out in accordance with the MSA. So, a larger number of sites may mean higher discounts for the telecom operator. Tenure The tenures of MSAs generally range between 10 and 25 years. The rentals stated in the MSAs are generally applicable over the tenure of the contract, with provisions of periodic revision (mostly annual). Tenancy Generally, each active electronic module is considered a separate tenant. For instance, if a player has entered into an agreement with a tower company for its GSM services and thereafter wants to install additional equipment for alternative services (Third Generation (3G), Wi-max, CDMA, etc.), the same would be treated as additional tenant(s) for the purpose of the agreement. Statutory Clearances/ MSAs clearly specify the list of approvals and clearances to be taken by the tower companies. Approvals Generally, all the approvals pertaining to passive infrastructure are obtained by the tower infrastructure company. However, any approvals pertaining to active components are largely obtained by the telecom operators. Operating Expenses Fixed Charges Expenses such as security and maintenance are usually borne by the tower infrastructure companies. Space/Ground Rental Space/ground rentals are usually borne by the tower infrastructure company. Any excess over a pre-specified level is generally shared with the tenants. Variable Costs like Fuel and Energy Charges Such costs are charged from tenants on the basis of their actual consumption. Increase in Variable Costs Most MSAs also provide for pass-on of any escalations in variable costs to the tenants. Lock-in-Period Most MSAs specify a lock-in period. Moreover, in the case of termination of contract by the telecom operator during the lock-in period, there is generally a provision of penalty on the tenant. Penalty Clauses Rollout: Usually MSAs provide for penalties for delay in the deployment of towers beyond the date specified in the agreed rollout plan. Service Level: Most MSAs specify the services levels with respect to power availability, uptime for regular and strategic sites, and other operations and maintenance parameters, and also the penalties on tower infrastructure companies in the case of failure to achieve the same. 8.0 Industry Structure: At present, there are broadly two kinds of operators in the domestic tower infrastructure industry: Tower infrastructure subsidiaries, which are the spun-off tower divisions of the telecom-operator companies; and Independent tower infrastructure companies (ITICs) 8.1 Tower Infrastructure Subsidiaries: In India, Bharti Airtel Limited, Reliance Communications Limited, and Tata Teleservices Limited have hived off their tower assets into separate tower infrastructure subsidiaries, namely Bharti Infratel Limited, Reliance Infratel Limited, and Wireless TT Infoservices Limited, respectively. Also Bharti Infratel Limited together with Vodafone Essar Limited and Idea Cellular Limited in a joint-venture agreement has created India s largest tower infrastructure company Indus Towers Limited, which has an estimated portfolio of around 85,000 towers. ICRA Rating Services www.icra.in Page 7
Table 3: Tower Portfolios of Operator-Promoted Tower Infrastructure Companies/ Telecom Operators Company Name Background Tower Portfolio Reliance Infratel Reliance Communications Limited s subsidiary ~ 44,000 Limited Bharti Infratel Limited Bharti Airtel Limited s subsidiary ~ 27,000 Indus Towers Limited Joint venture of Bharti Infratel Limited, Vodafone Essar Limited, and Idea Cellular Limited Wireless TT Info Tata Teleservices Limited s subsidiary WTTIL merged with Services Limited Quippo Telecom Infrastructure (WTTIL) + Quippo Others BSNL, Mahanagar Telephone Nigam limited (MTNL), Sistema Shyam TeleServices, Aircel etc. Source: Market sources, ICRA s estimates ~ 85,000 ~18,000 ~ 70,000 Hiving off of tower divisions into separate companies is strategically beneficial for telecom operators as it leads to significant unlocking of value while simultaneously improving operational and capital efficiencies. The parent telecom company benefits from reduced incremental capital requirements, lower operating costs, and a favourable capital structure, while the tower infrastructure subsidiaries gain an advantage in terms of an assured occupancy from their parent, which in turn may serve to attract other tenants. 8.2 Independent Tower Infrastructure Companies: Over the past few years, a number of ITICs have ventured into the domestic telecom tower industry. These include, among others, GTL Infrastructure Limited, Quippo Telecom Infrastructure Limited 1, Essar Telecom Infrastructure Limited, Xcel Telecom Private Limited, Tower Vision India Private Limited, Aster Infrastructure Private Limited and TVS Interconnect Systems Limited. Table 4: Illustrative List of Some Third Party Tower Companies in India Company Name Existing Tower Portfolio GTL Infrastructure ~9,500 towers Xcel Telecom ~1,500 towers Essar Telecom Infrastructure Aster Infrastructure ~4,000 towers ~1,000 towers Others ~2000 Source: Market sources, ICRA s estimates These companies have their business model based largely on the following two approaches: Contract Approach Anticipatory Approach Under the contract approach, tower companies set up tower sites going by the requirements of the telecom operators, and the terms of the contract are specified beforehand in the MSAs signed by the two parties. Under the anticipatory approach however, tower companies set up tower infrastructure at sites with reasonable demand potential and subsequently invite telecom operators to set up their network on these towers. The latter model involves higher business risks as the tower company may not be able to achieve reasonable tenancy for its tower infrastructure and at profitable terms. 8.3 ITICs versus Tower Companies: ITICs, especially those following the anticipatory approach, are usually at a disadvantage as compared with tower subsidiaries as ITICs do not have assured occupancy on their tower portfolios. Moreover, as most large telecom companies in the country have their own tower subsidiaries, the market for ITICs consists largely of regional operators and new entrants, in whose case credit quality can also be a concern. Nevertheless, in certain cases, ITICs are in a better position to address the needs of growing telecom operators who have recently received licences and spectrum to launch operations in new circles because of flexible rollout plans that are more suited to new entrants. Moreover, ITICs differentiate themselves by offering flexible payment terms to mobile operators (for instance, backended payment structure), which enables the mobile operators to reduce their costs in the initial years. 1 Now merged with WTTIL, tower subsidiary of Tata Teleservices Limited ICRA Rating Services www.icra.in Page 8
9.0 Economics of the Model Tower Infrastructure Companies The key points relating to the working of tower infrastructure companies are discussed in following bullet list. - High initial capital investments: On an average, while a roof-top tower involves a capital expenditure of Rs. 1.5 to 2 million; a ground-based tower requires a capital expenditure of Rs. 2.4 to 2.8 million. Given the high capital investments required in the business, tower companies are generally highly leveraged. - Stable and predictable cash flow business: Once a tower asset is rented out, it usually generates a stable and predictable cash flow in the form of tower rentals from occupants over the term of the MSA between the two parties. - Low working capital requirement: The tower business is also characterised by low working capital requirements, as most of the operating expenses (such as electricity and fuel and other variable operating expenses) are reimbursable by the tenants on actual basis. Moreover, the larger companies with a bigger and geographically spread out portfolio of networks may be able to get rentals for the towers in advance and also obtain better credit terms from their suppliers, thus further improving their working capital cycle. - High incremental profitability: The costs of operating a tower, particularly the ones borne by the tower company such as security and maintenance and ground rent, are largely fixed in nature. Thus each increment in tenancy is accompanied by a minimal increase in costs. This leads to a more than proportionate increase in profits for every increase in occupancy. Table 5: Illustration - Improvement in a Tower Company s Profitability with Increase in Tower-Sharing Ratio Particulars Ground-Based Tower Sharing 1 2 3 4 Capital Expenditure 2,600,000 2,600,000 2,600,000 2,600,000 Rental per Tenant 34,000 34,000 30,000 27,000 (A) Sharing Adjusted Revenue 34,000 68,000 90,000 108,000 (B) Operating Expenses * 18,250 19,450 20,650 21,850 (C) Contribution 15,750 48,550 69,350 86,150 Contribution as % of Gross Revenues 46% 71% 77% 80% (D) Other Fixed Expenses 1,000 1,000 1,000 1,000 Interest** @12% 17,333 17,333 17,333 17,333 (E) Profit before depreciation & tax (PBDT) -2,583 30,217 51,017 67,817 PBDT as % of Gross Revenues -7.6% 44.4% 56.7% 62.8% Depreciation (assuming an asset life of 15 years) 14,444 14,444 14,444 14,444 (F) Profit before tax (PBT) -17,027 15,773 36,573 53,373 PBT as % of Gross Revenues -50.08% 23.19% 40.64% 49.42% Source: ICRA s estimates *Includes site rentals, security expenses, operations and maintenance (tower) etc. Some of these expenses can vary significantly with location ** Assuming capital expenditure to be funded at a debt: equity ratio of 2:1 ICRA Rating Services www.icra.in Page 9
Internal Rate of Return Internal Rate of Return (IRR) Telecom Infrastructure Industry in India March 2009 According to ICRA s estimates, the telecom infrastructure business generates strong financial metrics once the average occupancy ratio (indicating average number of tenants per tower) crosses 1.7 times. Assuming an initial capital expenditure of Rs. 2.6 million and a life of 15 years, the manner in which the IRR moves at various occupancy levels is depicted in Chart 11. 20% 18% 16% 14% 12% 10% 8% 6% 4% 2% 0% Chart 11: Impact of Increasing Occupancy on IRRs 0.3% 5.3% 9.6% 12.2% 15.5% 18.7% 1 1.2 1.4 1.6 1.8 2 Tenancy/ Occupancy Ratio Source: ICRA s estimates 9.1 Factors driving growth for passive infrastructure sharing: Apart from favourable industry prospects, there are several other factors too that drive increase in tower sharing, as discussed in the following bullet list. Viability of business at low ARPUs: At present, incremental growth in the subscriber base is coming mainly from rural/semi-urban areas (also in these areas, the Chart 12: Impact of Declining ARPUs on IRRs at Different EBITDA Margin Levels in an Infrastructure Sharing Scenario incremental ARPUs are relatively lower). Further, network design and planning in rural areas is different from that in urban areas, given that the population in rural areas is widely dispersed, which 50% 40% 30% 20% increases the tower requirements to cover the same number of 10% subscribers (vis-à-vis urban 0% areas). But as Chart 12 shows, 200 175 150 125 100 75-10% even at low ARPUs, business ARPUs (Rs. Per month) viability can increase IRR at 25% margin IRR at 30% margin IRR at 40% margin significantly on the strength of infrastructure sharing (please refer Chart 7 also). Source: ICRA s estimates High usage and limited spectrum availability: India has one of the highest MoUs in the world, which increases the number of base tower stations (BTS) required to handle the same subscriber base. Thus while on an average, a GSM BTS can handle around 1,100 subscribers, in the case of high usage areas the figure can be as low as 600-700 subscribers, which means a larger number of cell sites would be required for the same area. Moreover, the country has the problem of spectrum scarcity, which increases the requirement of towers to maintain a reasonable level of service quality. Quality of service: In the past, domestic telecom operators competed largely on the pricing plank. However, as mobile tariffs in India are currently one of the lowest in the world, the scope for further tariff reduction is low. Given this fact, going forward, quality of service (QoS) would become the prime distinguishing factor among the competing companies. Moreover, a rapidly increasing subscriber base and spectrum crunch would further add to the problem of telecom operators having to maintain the minimum level of QoS. Besides, with the likely introduction of mobile number portability, QoS will become more important as customers will then have a broader range of options available with limited switching costs. Thus to retain existing subscribers by preventing subscriber churn, operators will require additional infrastructure in their existing areas of operation to be able to offer better QoS. Enhancement of profitability: Tower sharing helps operators lower their operating costs and capital expenditure and thereby earn better margins and higher Return on Capital Employed (RoCE); the overall impact on Profit and Loss is also positive. Analysis suggests that there would be net annual cost savings for mobile operators if they opt to lease towers from a tower company rather than own them. ICRA Rating Services www.icra.in Page 10
Table 6: Incremental Costs in Owning vs. Leasing a Tower Amounts in Rs. Owned Leased Difference Operating Expenses 543,000 312,000 231,000 Tower Rentals 0 408,000-408,000 Depreciation 173,333 0 173,333 Cost of Capital 312,000 0 312,000 Overall Saving 308,333 Source: ICRA s estimates Note: Calculations assume a tower cost of Rs. 2.6 million, life of asset of 15 years and 12% cost of capital. The operating expenses are indicative. Entry of new players and expansion plans of existing operators: Recently, several regional operators such as Vodafone Essar Limited, Idea Cellular Limited, Aircel Cellular Limited and Shyam Telelink Limited (now Sistema Shyam Teleservices Limited) have received licences as well spectrum in new circles, which would enable them to become pan-india operators in the next one-two years. Also, new licences have been issued to players such as Unitech, Swan Telecom, and S Tel Limited. Given the significant expansion plans of new entrants over the medium term and the need for them to optimise investments in order to maintain returns, demand for towers is expected to report a sharp increase. Shorter rollout time, a key necessity: As the domestic telecom industry is highly competitive, doing business may not be easy for the new entrants. Moreover, given that the incumbents already have the competitive advantages of widespread distribution networks, established brand names and strong subscriber base, shorter network-rollout time would be a critical success factor for the new entrants; a longer rollout time could mean loss of substantial market share to other operators. Tower companies allow players to start operations in a particular region just by installing their electronics on the readyto-use towers, thereby significantly shortening the rollout time. New technologies to further stimulate demand: 3G services are expected to be launched in the country in 2009-10. Moreover, in order to augment their services, various operators plan to launch Wi- Max services as soon as they receive additional spectrum from Government. This would further increase the demand for sharing of passive infrastructure. 10.0 Industry on the path of consolidation: Within the span of the last one to two years, with several players spinning off their tower portfolios and independent operators expanding their operations, competition has intensified significantly in the domestic tower infrastructure industry. The market shares of the various players are depicted in Chart 13. With leading GSM players forming a consortium (Indus Towers) and other larger players such as Tata Teleservices and Reliance Communications entering into longterm agreements for passive infrastructure sharing mostly with their tower subsidiaries, the new and smaller third-party infrastructure providers are likely to get most of their business from smaller players and new entrants, as the following table shows. Chart 13: Market Share Distribution Tower Infrastructure Industry Aster Infrastructure 0.4% Essar Telecom Infrastructure 1.5% Xcel Telecom 0.6% GTL Infrastructure 3.6% WTTIL + Quippo 6.9% Source: Industry sources, ICRA s estimates Table 7: Telecom operators and their potential passive infrastructure suppliers Incumbent Operators Subscriber Base (million) Dec'08 Main Suppliers of Incremental Passive Infrastructure Bharti Airtel 85.65 Bharti Infratel - for 7 circles; Indus Towers - for 16 circles Reliance Communications 61.35 Reliance Infratel - for all circles Vodafone Essar 60.93 Indus Towers Reliance Infratel 16.8% BSNL 46.23 MTNL, own tower portfolio and other tower companies Others 27.5% Bharti Infratel 10.3% Indus Towers 32.4% ICRA Rating Services www.icra.in Page 11