<b>Sunil Jain:</b> 3G game changer

The Tina factor could see bids cross Rs 50,000 crore, far in excess of what the FM has budgeted for

Will Finance Minister Pranab Mukherjee get more than the Rs 35,000 crore he had budgeted for from the auctions of 3G and BWA spectrum that will take place next week, considering that there’s one less 3G slot this time around? As compared to four 3G slots apart from one given to BSNL/MTNL that were supposed to have been auctioned initially, there will only be three slots apart from BSNL/MTNL. Making predictions is foolhardly, but a few points can be made as to why Mukherjee’s target may well turn out to be conservative:

 

On average, the GSM firms have around 7 MHz of spectrum and will get 5 MHz more if they win the 3G spectrum — this will raise their operational efficiencies by 30-40 per cent, so firms will pay to get this. 
 

There are nine bidders for 3 3G slots, of which six are existing players. Those who don’t get 3G spectrum will likely lose premium customers who generally like to use data. Modems sold by RCom and Tata Tele, that operate at 3G speeds, today give them revenues of around Rs 600 a month, or 3-4 times what normal voice customers pay. 
 

If you look at the valuations paid by firms like Telenor and Etisalat for buying part of Unitech and Swan, this suggests you could get valuations of around Rs 40,000 crore or so. 
 

If a firm has access to lower-cost capital, this hugely raises its ability to bid — according to Kotak Institutional Equities, a reduction in the Weighted Average Cost of Capital (that’s cost of debt and equity) from 15 per cent to 13 per cent (that’s by 13 per cent) will raise the amount the firm can bid by as much as 24 per cent. 

Part of the value that firms will pay is clearly driven by the extra revenues they will earn from 3G spectrum — so, if customers pay extra for being able to use high-speed data which 3G allows them, a firm will pay that much more for the spectrum. So, the critical parameters here are how many customers will start using 3G services and how much more they will pay for using them. Estimates vary, but two that I have seen recently, by BDA and Kotak Institutional Equities, project 90-100 mn users in the next 5 years. BDA has separate numbers for the RCom/TataTele-type modems that will run on 3G, while Kotak assumes a lower $4 of extra revenue (Rs 180) per month from 3G subscribers in metros/A circles, going down to $2.4 in C circles. Based on the revenue stream that this generates and after discounting it, Kotak assumes all firms who bid will gain an extra $6 bn from 3G operations. 

THERE IS NO ALTERNATIVE (TINA) (or why firms will pay more than they should for 3G licences)
$mn	Value creation due to 3G*	Value destruction without 3G**	Total  'value' for firms
Bharti	2,273	2,318	4,591
Vodafone	1,937	1,634	3,571
RCom	274	514	788
TataTele	1,175	515	1,690
Idea	207	265	472
Aircel	184	306	490
BSNL	88	662	750
MTNL	-30	52	22
Total	6,108	6,266	12,374
* Due to greater revenues from 3G services; ** Due to customers leaving if operator doesn't offer 3G services; Against its ‘value’ of $4.6 bn, Bharti will pay $2.5 bn; Vodafone will pay $2.4 bn against its ‘value’ of $3.6 bn; BSNL/MTNL, however, will pay $2.5 bn (to match Bharti) while their ‘value’ will only be $0.7 bn. Source: Kotak Institutional Equities

It is after this that the Kotak analysis gets interesting. The report points out that firms also stand to lose customers if they don’t offer 3G services — I would, for instance, move from Vodafone if it never offered 3G speeds on my phone while Airtel did. So Vodafone, in this case, has to bid to not just capture the increased revenue I will provide it by using 3G services, it has to take into account the loss it makes if users move away to rivals. Kotak suggests both figures are roughly equal. While firms like Bharti/ Vodafone/ RCom/ TataTele will bid less than this ‘value’ — Bharti will pay $2.5 bn and Vodafone $2.4 bn as compared to their potential earnings/losses of $4.6 bn and $3.6 bn — those like BSNL/MTNL will pay much more since they have to match the top bidder but, says Kotak,won’t derive as much value from their subbscribers. All told, Kotak estimates the net present value of the gain from 3G services is $6.1 bn and the loss from not bidding for 3G is $6.3 bn — the total ‘value’ of the 3G spectrum for firms is $12.4 bn. It projects firms will bid a bit lower, at $10.3 bn and $1.1 bn for BWA spectrum.

You could quibble with the numbers. BSNL/MTNL may make more money than Kotak thinks, firms may not bid anywhere near $6.3 bn to protect the loss of customers/revenues and BWA bids may be much higher since each licence offers double the spectrum that 3G licences do even though it offers less flexibility of use, at least for now. Either way, it does appear likely the FM’s growth target will be surpassed quite handsomely.