Dial M for merger

Merging MTNL and BSNL makes a lot of sense.

Should the state-owned Bharat Sanchar Nigam Ltd and Mahanagar Telephones Nigam Ltd be merged? The government has been mulling over the question for months. But early last month, it finally awarded a mandate to three investment banks to work out how these two companies should be merged.

There are reasons aplenty to merge the two companies. India's telecom landscape is becoming more competitive than ever and pricing pressures persist for both long distance as also cellular services, though they appear to be stabilising. Against this backdrop, economies of scale are required to roll out a portfolio of services at attractive price points.

Cash is required to fund increasing capital expenditure. Bharti Televentures, which now accounts for about 20 per cent of the cellular services market, turned in a net profit of Rs 334 crore in the second quarter of this financial year "� demonstrating how economies of scale can work to a telecom company's advantage once a certain level of operations has been achieved.

Observes a partner at a consulting firm: "In any country, whether Britain, France or Germany, the incumbent government player has always retained a fairly large share even after the entry of private players. There is no reason why it should not happen here."

The merger of the two telcommunications companies will help create a stronger organisation, accounting for over 90 per cent of the fixed line market and around 18 per cent of the wireless market with a total subscriber base of over 45 million, almost half India's subscriber base.

Says M P Shukla, MTNL's first chairman: "These firms have intrinsic strengths and financial assets, which should be exploited. The merger will be beneficial as it will mean optimal utilisation of resources and less expenditure for expansion." The arguments for the merger are truly compelling.

Consider:

Nationwide footprint: The merged entity will have a pan-India presence, allowing it to access customers across India, resulting in a more economically viable scale of operations.

Despite being present in the most lucrative markets of Mumbai and Delhi, where the average revenue per user (ARPU) is Rs 500 versus Rs 400 for the rest of India, MTNL has managed to get barely a 2 per cent share of the cellular market. Armed with a competitive tariff, BSNL has done far better to capture an 18 per cent share and, with a chance to operate in the metros, it could raise its share.

Full range of services: Without the Mumbai and Delhi circles, BSNL has a gaping hole in its network and cannot offer a credible package to enterprises or individuals. The merger will allow the new company to offer the full range of services, ranging from international long distance (ILD), national long distance (NLD), to cellular and broadband.

Moreover, as Frost and Sulivan telecom analyst Alok Shende points out, since the government has ruled out the unbundling of las mile access by the incumbents, the combined entity with the lion's share of the fixed line market will call the shots in the broadband sector.

Stronger balance sheet: The merged entity will have combined revenues of Rs 35,000 crore and profits of Rs 6,000 crore, with BSNL contributing 80-85 per cent of the sales and operating profit. Its combined net worth will be in the region of Rs 66,000 crore. What is more, it will have total cash on the books of around Rs 6,000 crore.

BSNL can use the cash with MTNL to grow its wireless business and to finance the foray into broadband.

Cost savings: As the newly-appointed BSNL chairman A K Sinha observes: "The merger will synergise our operations by increasing efficiency and cutting costs."

To begin with, administrative overheads will be lower, marketing costs can be pruned and expenditure on personnel too can be controlled. The incremental capital expenditure required will be in the region of Rs 3000 crore every year. The bigger combined orders will give the new company greater bargaining power.Moreover, any duplication will be avoided.

Will the merger then change the telecom landscape? Not immediately. Observes a partner at a consulting firm: " The merger will not immediately result in a modern telcom company. What it does is merely completes the footprint and this could catalyse its technology upgradation and marketing strategies. "

Incidentally, the management of a leading telcom company recently commended BSNL's work in rural areas where it managed to tap the latent demand. Further, the combined entity will have the last mile advantage across the country.

So while rivals can breathe easy for a while, they will have to rethink their options sooner rather than later. Moreover, most players have little room to raise tariffs whereas MTNL, which perhaps has the lowest tariffs (reportedly cross-subsidised by other income streams) can raise them.

Nevertheless, the process of integrating BSNL and MTNL won't be easy. Prithipal Singh, former chairman of BSNL, says that there are practical problems. The pay scales and working environment of both companies are different. "We should have a set up to synergise the working of the two companies " he argues.

The difference in the pay scales will have to be addressed and the unions pacified. BSNL's workforce of 36,000 is six times that of MTNL. However, in 2002-2003 the BSNL employee's average cost of Rs 1,75,000 per annum was about 30 per cent less than that of an MTNL's employee.

The government will also have to decide on the merger route. While several options exist, a reverse merger of BSNL (the government owns 100 per cent of its equity) into MTNL (the government's stake: 56.25 per cent) seems the most practical since MTNL is a listed company and, more important, listed overseas.

Investment bankers believe that BSNL should command a better valuation than MTNL since it has reached a significantly large scale for its fixed line business and also because its cellular business is growing rapidly.

A part-cash, part share transaction should limit both the outflow of cash and the dilution in the minority shareholders' equity so that the stock does not get delisted.

In sum, merging BSNL and MTNL makes eminent sense. Without doubt, this merger call is worth taking.