Spectrum pricing: The govt has done the right thing

The Union cabinet’s decision to set the reserve price for 2G spectrum at Rs 14,000 crore is perhaps one of the best decisions it has taken in a long, long time. It may have come at the wrong time - telecom companies have already started their breast-beating exercises - when the economy is trending down, but it is sound in principle. Scarce resources should not be sold cheap.

Briefly, this is what the cabinet decided on Friday: it has lowered the base price recommended by the Telecom Regulatory Authority of India by 22 percent, and compensated for this loss by retaining the spectrum usage fee at 3-8 percent, as now. This means Rs 14,000 crore is the new base price for 5 Mhz of nationwide spectrum for GSM operators, and Rs 18,200 crore for CDMA players. Any new spectrum bought will be “liberalised” - which means telcos can use it for providing any service, 2G, 3G, voice, data or anything.

[caption id=“attachment_404726” align=“alignleft” width=“380”]  The biggest concession made is that telcos have to pay only one-third the auction price upfront. Reuters[/caption]

The biggest concession made is that telcos have to pay only one-third the auction price upfront. After this they have a two-year moratorium, and the rest is payable in 10 annual instalments. In short, they have 12 years to pay up. So what they shouting about?

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Since spectrum can now be mortgaged to banks, telcos going out of business will essentially hand over the spectrum to banks, and future auctions of seized spectrum may be conducted by banks rather than government.

But, as usual, the crybabies of the sector have begun painting desperate scenarios. Tariffs will go up, warned one. How will we raise Rs 3 lakh crore, wailed another.

“Forget Rs 14,000 crore. There is no business case even if the reserve prices were set at Rs 1,650 crore (per Mhz). Idea is losing Rs 170 crore per quarter in each of the seven circles where our licences were quashed by the Supreme Court,” The Economic Times quoted Idea Managing Director Himanshu Kapania as saying.

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Rajan Matthews, Director General of the Cellular Operators Association of India, the GSM lobby, had this to say in Business Standard: “The high reserve price can impact tariffs by 30 paise a minute and additional debt of Rs 3,25,000 crore would have to be raised by telecom players to fund bids. Banks do not have that kind of bandwidth.”

Let us accept some of the basic arguments made here: That paying such a “high” price for spectrum could, indeed, send tariffs up. That so much debt will be difficult to raise in the current bearish environment. And that telcos will have a problem making ends meet after paying so much.

However, one should also recognise that it is the job of business lobbyists to pitch their demands higher than needed. But it is not the job of government to listen to unreasonable requests. Moreover, after a market penetration of more than 50 percent, it is time to start pricing spectrum based on scarcity rather than what it was priced historically. Nobody says petrol should be sold at Rs 30 a litre today (that was the price 10 years ago), so why spectrum?

The purpose of business is to assess the prospects of profitability in any product or service line; if there is none, they should sell out. So if Kapania of Idea thinks there is no business case for buying spectrum at Rs 14,000 crore, he should tell his boss Kumar Mangalam Birla to sell Idea to whoever thinks there is a business case.

The proof of the pudding is in the eating, and businessmen will prove their case if they refuse to bid and put their businesses on the block. But, so far, no businessman has said he will sell out. Or even that he will not bid at the auctions. This suggests that after all the kicking and screaming, there is still a business in telecom worth doing.

Here are some counter-arguments to their main gripes.

First, the high debt of Rs 3,25,000 crore that needs to be raised. This is a very long-term problem, and relates to future auctions. Currently, what is on offer in the first round of auctions is just eight blocks of 1.25 Mhz each of spectrum in the 1,800 Mhz band for GSM players, and three blocks of spectrum in the 800 Mhz band for CDMA players. Put together, the combined base prices for these 11 blocks will add up to Rs 42,000 crore. Not exactly unachieveable.

Even assuming bids go very high, the amounts involved may not exceed Rs 50,000-60,000 crore. Nothing that banks cannot finance at a time when credit growth is anyway not too robust - this is exactly the amount released by the 1 percent cut in banks’ SLR last week by Governor D Subbarao. Just coincidence?

Second, the industry is deliberately underplaying equity. While there have been media reports that Bharti Airtel, the market leader, is considering some kind of equity issue to reduce its debt , the fact is the industry as a whole is undercapitalised and relies too much on debt. This pattern is, of course, symptomatic of all Indian promoter-driven companies. The owners want to invest very little of their own money, and instead want banks to take most of the risk.

(As an aside, this is exactly what Vijay Mallya is doing with Kingfisher. The banks want him to put in equity, but he is talking of FDI in aviation, which means someone else will put in the equity, if at all. If he wants to run Kingfisher so much, why doesn’t he sell a part of his liquor business and run the airline with higher equity? He clear wants to keep his booze and drink it too).

Even the promoters who have the money to invest more in equity expansion refuse to do so because they want to maintain total control of the organisation. This is where crony capitalism comes in.

In the west, promoters in need of capital dilute their stakes and retain control as long as they can show sheer performance. When they don’t perform, they are either taken over or forced to cash out.

In India, the phenomenon of crony capitalism enables promoters to put in very little equity investment and still retain control of their companies since they can use their clout with politicians to make banks lend to them. Or they can seek favourable policies (as they are seeking now) which do not call for additional capital.

However, the game is changing - and this is what the telcos really don’t like about the new spectrum price. The high reserve price will force them to dilute equity. This will make them vulnerable to takeovers, and their ability to run their companies like personal fiefs will be severely circumscribed.

Consider the reality: the five listed telecom companies - Bharti Airtel, Reliance Communications, Idea Cellular, Tata Teleservices, and Tata Communications - have a collective market valuation of around Rs 1,60,000 crore. Barring Idea, in the other four companies, the promoters hold 68-77 percent of the equity. A 25 percent dilution of stake by issuing fresh equity will give them Rs 40,000 crore in the blink of an eye. And remember, they have to pay up only one-third the amount upfront - and the rest over 10 years after a two-year moratorium.

Why are they screaming about debt when they can raise equity? Is it because their ability to control companies with very little equity is now going to be threatened?

Third, it is important to dispel the high spectrum price myth. It is being said that the new base price is 7.5 times costlier than the last 2008 price of Rs 1,650 crore.

This is rubbish. Rs 1,650 crore was the A Raja special crony price, unrevised since 2001. Eleven years have elapsed since the prices were last raised. But even Rs 1,650 crore was not the true price. As soon as licensees got their spectrum, they sold shares to foreign partners at huge premia without investing anything beyond the initial Rs 1,650 crore.

Consider Telenor. Unitech got its licence and spectrum for Rs 1,650 crore. Telenor paid Rs 6,120 crore to buy a 67 percent stake in the company. In other words, the actual price paid by Unitech and Telenor together for spectrum was really Rs 1,650 crore plus Rs 6,120 crore - a total of Rs 7,770 crore.

The new base price of Rs 14,000 crore is thus less than twice the 2008 price. So what are telcos shouting about? (Of course, in 2008, all telcos got 4.4 Mhz of startup spectrum free, but I am just oversimplifying the numbers to explain that the real rise is not as much as the telcos claim it is. And even if it is, the broad argument may hold).

The government would be well advised to ignore the telcos and their crybabies. They are really crying about the beginning of the end (one hopes) of the crony-capitalist era, where they could get scarce resources for song, with help from pals like Andimuthu Raja.