As soon as you enter the Vodafone India head office at Mumbai’s Peninsula Corporate Park, your eyes are drawn to a cricket pitch in the middle of the hallway, nestled between the cubicles and coffee machines. The Vodafone National Cricket Tournament 2012 is on between teams from its 22 telecom circles and the pitch is part of the promotional campaign. The final is on February 17 but celebrations at Vodafone began more than a month ago. And with good reason.
On January 20, the Supreme Court declared that no capital gains tax was payable by Vodafone Plc on its purchase of a 67% stake in Hutchison Essar in 2007. For the company, it means not having to pay up the $2.2 billion claim raised by the income tax department and getting back the ₹11,000 crore it had paid. “It’s a psychological relief — we thought it was right and it turned out to be right. It’s a good feeling,” smiles Marten Pieters, Vodafone India CEO.
The good feeling is likely to last. It’s been a bonanza year for Vodafone. The favourable verdict came shortly after a 20% growth in revenue in the last quarter. Now, as Vodafone India gears up for an IPO, the Supreme Court’s decision to cancel 122 cellular licences issued in 2008 means an imminent shakeout in the industry. More importantly, more spectrum will be available for incumbents. With a major worry off its back, the brand built and capex done, can Pieters transform Vodafone from being a much-loved but loss-making No.2 player, to a profitable industry leader?
In February 2007, when Newbury, England-based Vodafone Plc agreed to acquire a 67% stake in Hutchison India, the deal raised eyebrows everywhere. $11 billion seemed a ridiculously high valuation for a company that had just 24 million customers with annual revenues of around ₹11,000 crore.
But the British parent not only paid that sum, it continued to shower largesse on the Indian operations. In the past five years, Vodafone has pumped in over ₹34,300 crore towards capex and shelled out another ₹11,600 crore to buy 3G spectrum in nine circles. “The ability and willingness to invest is the freason why Vodafone achieved scale so rapidly in India,” says Samaresh Parida, director, corporate strategy, Vodafone India.
What’s really helped, though, has been the effort and money invested in building Brand Vodafone. While the company’s spend on advertising and marketing is believed to be comparable with the other two operators (no numbers are available), since Vodafone doesn’t have celebrity brand ambassadors (unlike Idea and Airtel), its bang for every buck is higher.
Two months after the Hutch acquisition was completed (May 2007), the company was formally renamed Vodafone Essar, in an exercise that reportedly cost the company ₹250 crore. The transition included rebranding at some 400,000 multi-brand outlets, 350 company stores, more than 1,000 mini stores, about 3,000 other touchpoints, as well as a massive advertising roadblock. In September, Vodafone bought up all the commercial airtime across all 13 Star India channels for a 24-hour period and launched the “Hutch is now Vodafone” campaign, in television, print and outdoor. It was the first such mega campaign in India.
Ogilvy & Mather, which has been with the mobile company since 1999, effected a seamless transition by retaining Hutch’s mascot, the pug. The television commercial showed a simple film of the loyal little pug moving from a pink kennel (Hutch’s colour) to a red one (Vodafone), its new ‘home’. Later, five and 10-second spots showed the pug playing with various objects, all red: a blanket, a hat, etc. The task of creating a whole new brand was difficult to execute, recalls Kapil Arora, country head of O&M’s Team Vodafone.
The brand philosophies of Hutch and Vodafone were completely different: one understated and subtle, despite its hot pink logo, the other full of youthful energy. “Taking all that you created so painstakingly over the years and transforming it overnight was a challenge. But the effort required spurred the team to a different level of motivation,” he says.
At the same time, Vodafone was also making a determined effort to increase its subscriber base, especially in rural and lower-income categories, by launching low-cost handsets (₹1,000-1,800). The Magic Box had a handset, two-year replacement warranty, free talk time, caller tunes and a lifetime prepaid connection. There was also Chhota Recharge, which allowed prepaid customers to recharge for very small amounts, as little as ₹10.
Vodafone’s current brand identity was established in 2009, with a campaign launched during the second season of the Indian Premier League. A new ad was aired every day of the tournament, each ad promoting a different value-added service — and all featuring white, alien-looking creatures with scrawny limbs, protruding bellies and giant heads. Speaking an imaginary language, laughing loudly, frowning and grinning, the Zoozoos were an instant hit. “The brief was to create unusual characters that would link the ads,” recalls Rajiv Rao, national creative director, O&M. “All we knew was that the characters had to be stupefyingly simple.”After various iterations, the team finally settled on eggshell-covered characters with black dots for eyes and mouths. And rather than use animation, real people were used in the films, wearing body suits; sets were created to give the cinematic feel that the Zoozoos are smaller than humans.
It was a landmark campaign, not only because of the Zoozoos, but also for the size and scale. Some 29 films were produced and all were shown during the IPL — that’s about four months’ inventory used up in one shot. But it was worth it — some of the ads have more than a million hits on YouTube and the campaign went on to become the first Indian film in Ad Age’s top viral list. As a result, brand recall and customer connect went up exponentially.
The inside story
Is all that effort getting reflected in the subscriber numbers? To some extent, yes. Vodafone is now India’s second-largest mobile company by revenues with nearly 150 million customers and a brand that connects with most Indians: it has 58 million users in rural India, second only to market leader Airtel’s 70 million. The operator now covers 80% of India’s population with over 100,000 2G base station sites.
Getting that penetration would have eaten up lot more time and resources had it not been Vodafone’s sharing strategy. Its partnership with rivals Airtel and Idea to form tower company Indus Towers in 2007 to share infrastructure not only speeded up expansion, but also cuts costs substantially. Indus is the world’s largest tower company, with 109,000 towers. While Airtel and Vodafone have 42% stake each in the company, Idea holds the remaining 16%. Indus is also a significant source of revenue: its ₹807 crore income contributed 7% to Vodafone India’s ₹11,532 crore in the first half of FY12.
Revenue is also growing. Income in FY11 was ₹27,348 crore and stood at ₹7,987 crore in Q3FY12, a 20% increase over the year-ago period, driven by an increase in customer base. Vodafone India doubled its data customers to 31.2 million during the quarter, which helped data revenue grow 46.4% to about ₹530 crore.
After nearly three years of cut-throat price competition, cellular operators finally hiked tariffs around August last year. About 56% of Vodafone’s total subscriber base is now on higher tariff plans and that’s helped increase the company’s average realisation per minute (RPM), from 59 paise in Q2 to 61 paise in Q3. Idea’s RPM improved from 42 paise to 43.3 paise, while Airtel saw an increase from 43.18 to 44.5 paise per minute during the same period. More importantly, Vodafone reported a 4.4% increase in voice call volumes, meaning subscribers were talking more on their mobiles, notwithstanding the price hike. In comparison, Idea’s growth in call volumes was a shade higher at 4.9%, but Airtel saw a 1.1% drop over the preceding quarter.
But revenue and related growth notwithstanding, Vodafone India is still not profitable at the net level. Its British parent provides detailed regional operating data only on a half-yearly basis and, in H1FY12, Vodafone India did report an operating profit of £535 million (₹4,253 crore), a growth of 15% over the year-ago period. Pieters and his team are silent on the issue, but a banker explains why net profits continue to be elusive.
One, Vodafone India’s operations are burdened by debt, estimated at ₹25,000-30,000 crore at the end of FY11. “The company had foreign ownership issues and so could not raise equity at a premium. All capex was financed through debt,” says the banker familiar with the company’s finances. Two, a significant chunk of Vodafone’s capex was done in the past two or three years. For the next three years or so, the outgo on interest will continue to pull down profits. Three, Vodafone, as well as Hutchison when it controlled the Indian firm, had to give huge payouts to employees to compensate them for not bringing out an IPO and delaying an stock options exit.
Listing at leisure
It’s only a matter of time, many in the industry believe, before the company washes out the red in its P&L. Vodafone must be waiting eagerly for that — a strong balance sheet and net profit is very important if the company is to get a good valuation at the bourses. Rumours of an IPO have been doing the rounds since the time the company was called Hutch but now, for the first time, Vodafone is officially talking about preparing the ground for a listing.
Vodafone Plc CEO Vittorio Colao has said that “IPO is a 2013 event” and Pieters adds cautiously: “We have not committed to the timing of the IPO though we will start preparations.” Regulatory certainty, clarity over pricing of spectrum and several other issues need to be ironed out before a date can be set, he adds. The market also needs to be stable before the company goes for an IPO, says Romal Shetty, executive director and head of the telecom practice at KPMG. “The listing will help them get cash but the timing will depend on market conditions.”
It’s not about the money: the parent has always been generous in supporting the Indian company. A listing is important for Vodafone to comply with foreign ownership guidelines, which stipulate a maximum 74% foreign shareholding in a telco. “In the past, Essar was the Indian partner. We have replaced Essar with financial investors but, in the longer term, it is always going to be difficult situation,” says Pieters. Of the 33% stake held by Essar, 11% was routed through a foreign entity while the rest was in Indian hands. Piramal Healthcare picked up half of that 22% and the remaining was taken up by financial investors, including IDFC.
Piramal paid close to ₹6,000 crore for an 11% stake in Vodafone, valuing the company at ₹54,675 crore. Piramal Healthcare chairman Ajay Piramal and CFO Rajesh Laddha — who has been given a seat on the Vodafone India board — are bullish about their purchase. “This is an excellent investment option for us,” says Ajay Piramal. “We feel we will get between 17% and 20% return on this investment.” The group plans to exit fully in 18-24 months, depending on the price, size and timing of the IPO. “We expect the valuation to rise further as the telecom sector is in a consolidation phase and pricing power is coming back to operators,” adds Laddha.
Critical to Vodafone going public — and Piramal’s and other investors’ exit — will be what other investors will be willing to pay for Vodafone. Most agree that it is likely to be valued in the same range as Idea and Airtel, the two listed entities. Investors guess that Vodafone will debut at a market value of ₹55,000-60,000 crore. The estimate is based on the current valuation matrix of Idea Cellular, which is currently valued at around 1.7 times its trailing 12-months revenue of nearly ₹2,800 per subscriber.
For the nine months ended December 2011, Idea reported income of ₹14,171 crore and it has a current subscriber base of 107 million. The company, which is the third-largest mobile operator by revenue, has a market capitalisation of ₹30,000 crore. Could Vodafone, being the No.2 mobile operator and having a strong presence in some of India’s largest and most lucrative circles, get a premium over Idea? That is debatable, given that the two companies are on different planes when it comes to profitability metrics. Idea had a net margin of 5.8% last fiscal and earns a return on equity of 12.4% (both on consolidated basis).
New focus areas
Irrespective of the IPO and its valuation, Vodafone’s priorities for the next few years are well defined. Pieters lists three focus areas: strengthening presence in seven C circles where Vodafone began operations just three years ago (Odisha, Bihar, Assam, North East, Himachal Pradesh, Madhya Pradesh and Jammu & Kashmir); growing the enterprise business; and building up the data business. “The C circles are still a focus area for us because we are sub-scale there. So we are focusing to make sure we get to a market share level sustainable for the future,” he points out.
Largely an urban brand, the company has made inroads into
semi-urban areas as well
Unlike Airtel, which started its enterprise business more than half a decade ago and counts big-name like Thomson Reuters and Intel among its clients, Vodafone entered the enterprise services market only in July 2010 when the voice business was being savaged by price competition. It now offers enterprise mobility solutions, wireline data and voice solutions, managed network services, etc.
Vodafone’s 110,000 km of fibre network allows it to offer corporate customers services like internet leased lines, virtual private networks, etc. Vodafone has about 3 million corporate customers already and has also partnered with Wipro to build and manage its fixed line telecom service business. “It is still early days. But we clearly want to be more than just a prepaid mobile voice provider. Vodafone, as a group, delivers those services [connectivity, managed networks, etc] to many worldwide customers. We have built that capability over the past two years and are now beginning to sell them to Indian corporates,” says Pieters.
Rising above the rest
The company has the largest network of stores in comparison with its competitors
The enterprise business has three distinct customer groups — Vodafone global enterprises (accounts that Vodafone serves across the world), national corporations with a pan-India presence and the SME segment, serviced through channel partners. The last is a “hugely under-served” category, says Parida, adding that Vodafone sees a significant opportunity there. Globally, the company has advanced enterprise solutions like self-service tools and machine-to-machine, which enable remote devices to exchange key information over wireless, besides providing remote asset control and management. The Indian subsidiary will also offer these services over time.
Like enterprise services, data services is also a relatively new business for Vodafone. In the past 18 months or so, and especially now with the introduction of 3G, the company has been focusing on broadband data services and applications.
Apart from providing users access to the internet on its network, it also means providing products and services related to data, such as mobile apps and mobile banking services. A Centre of Excellence has been set up in Bengaluru, which continuously monitors potential areas where people could be using data on mobile. Based on the feedback, it is also looking at other domains like mobile education, healthcare and agriculture, besides the regular entertainment and sports updates.
The app store was revamped last November and now offers applications for non-smart but data-enabled phones. Any Vodafone customer can access these applications, ranging from games and quizzes, to train timings and entertainment; the application developer gets 70% of the revenue. There have been over 1 million downloads since November, according to the company.
Shot in the arm
Vodafone is under no illusions; it will be a long while before those new focus areas become significant revenue streams for the company. “Those are areas where we put our bets, where we put our money and where we focus a lot. But the reality is that 85% of our revenue comes from the traditional voice business and we will never let the eye off the ball there,”
Recent events in the telecom space should give the voice business a boost. Following a petition by Janata Party president Subramanian Swamy, the Supreme Court quashed all 122 spectrum licences of nine operators that had been granted during the tenure of former telecom minister A Raja, terming the allocation “unconstitutional and arbitrary”. The court has ordered that the current licences will remain in place for four months during which the government should decide fresh norms for issuing licences. It has also said natural resources like spectrum should be auctioned and not allocated on first-come-first-serve basis. The cancellation of licences means a whopping 540 MHz of spectrum will go back to the government and will be auctioned soon.
Incumbent players like Vodafone and Airtel have been grumbling over the lack of spectrum affecting the quality of their services for a long time now, so this is welcome relief. “We simply don’t have spectrum to do what we are supposed to do. So, is this situation going to help us resolve the issue? I assume ‘yes’,” says Pieters.
While an auction of 2G spectrum is almost certain, views are divided over the pricing. Mahesh Uppal, telecom analyst and director of consultancy firm Com First India, believes prices are unlikely to go the 3G way since competition is reduced and there is much more spectrum on offer. On the other hand, Alok Shende, principal analyst at Ascentius Consulting, says that, based on the 3G auctions, the finance ministry and telecom department are likely to keep the reserve price for auctions high.
“This means that even if the participation from new operators is at best tepid, high reserve price will lead to steep pricing of spectrum for both new as well as the incumbent operators,” he says.
Whatever the pricing, only the bigger players are likely to have the financial muscle to participate in the 2G auctions. That means Airtel and Vodafone will be among the beneficiaries.
Availability of spectrum isn’t the only positive of the verdict. The cancellation of licences will reduce competition: from a high of up to 14 players in some telecom circles, most industry experts predict the number will go down to eight or nine. Granted, that’s still a lot, since basic mobile services have become nearly commoditised with 74% mobile SIM penetration, but there’s a corollary: subscribers whose services have been cancelled will switch to other operators and the two biggest gainers of mobile number portability (MNP) so far have been Idea and Vodafone. From 20 January 2011, when MNP began, until December 2011, Vodafone had gained 1.32 million users and Idea, 1.98 million. It seems likely that the nearly 8 million of these affected subscribers will also find their way to these two operators.
What will happen to Vodafone’s rivals? For starters, even serious new players like Uninor will have to bid for 2G spectrum afresh, which means a very expensive re-entry into the mobile space. Then, the exit of non-serious players means an end to tariff wars.
How numbers stack up for the Big 3
Clearly, the stars seemed to be aligned in favour of Vodafone. Since February 2007, when it stepped on India soil, the multinational has gone through test after test, although it has proved its faith in the country by pouring in as much money as required to grow the business.
Now, Vodafone is offering even further proof by Indianising the board and trying to change the perception that the company is run by foreigners. Piramal Healthcare’s Laddha’s appointment aside, it has also brought back Analjit Singh as non-executive chairman. The Max India chairman was one of the joint venture partners when Hutchison started operations in India in 1995 as Hutchison Max Telecom. “Analjit has been a longstanding, reliable and trustworthy partner in India,” explains Colao, announcing the appointment on February 10.
The Indianisation strategy has a votary in Pieters. Indeed, that’s another reason he is pushing for a listing — to give locals a chance to own a piece of the company. “That will give [Vodafone] stronger roots in Indian society. And over time, people will start to see Vodafone as an Indian company. We would love to be the new Hindustan Unilever, a company that is controlled by a foreign entity, but I think most Indians see it as a very strong Indian company.”