New Delhi: Four years ago, over several meetings in a southern suburb of New Delhi within sight of the world’s tallest brick minaret, Qutub Minar, Sunil Mittal and a key team of lieutenants hatched a business model aimed at taking the costs and pains of setting up and managing an extensive phone network off the company’s books.
Since then, Bharti Airtel Ltd , India’s largest mobile phone services firm whose board Mittal chairs, has outsourced almost every operation — computer and phone network management, customer service and billing, even the construction and maintenance of telecom towers — in the business, thereby shaving costs to the bone.
Today, that model, which has helped keep Bharti Airtel’s operating profit margins in the high 30s (%), will likely prove to be the ace card in the billionaire businessman’s ambitious gamble to grab a stake in phone firm MTN Group Ltd, potentially handing him an edge over other suitors who are likely to escalate the bidding price in a war for a valuable telecom asset spanning 21 African and West Asian countries.
Analysts expect Bharti Airtel to replicate its low-tariff and high-minutes of usage model, which helps it maintain its profit margins, in markets beyond India as it seeks competitive leverage against global rivals such as Vodafone Group Plc.
“Bharti will leverage its experiences in lowering cost of managing phone networks by pursuing revenue-linked outsourcing contracts,” said a London financial analyst, who did not wish to be identified.
Not only are companies such as Vodafone hampered by high interconnect charges paying out as much as 15-20% of their revenues as charges to other networks to complete a call, this analyst said, they also have high costs of setting up and managing networks (as much as 17% compared with up to 12% at an Indian operator such as Bharti Airtel).
Indeed, last year, after he had sealed a two-thirds acquisition of Indian mobile phone services firm Hutchison Essar Ltd (since renamed Vodafone Essar Ltd), Arun Sarin, Vodafone Group’s chief executive, at a business gathering in the capital had marvelled at how Indian phone firms managed nearly 40% Ebitda margins charging just 2 cents (less than 80 paise then) a call -minute, while even with tariffs of between 10 pence and 15 pence (Rs8 to Rs12) a minute, Vodafone and other European firms managed no higher operating margins.
The message was clear: An Indian firm transplanting its low cost model to Western markets was a big threat to global telecom firms. (Ebitda margins, that represent earnings before interest, taxes, depreciation and amortization as a percentage of sales, denote the underlying profitability of a business.)
Even before selling its shares in an initial public offering in February 2002, Bharti Airtel (then Bharti Televentures Ltd) had made public its displeasure in being measured by what is called Arpu, short for average revenue per user a month, a metric used by telecom analysts worldwide to value telecom shares. In India, the firm’s senior executives repeatedly argued Arpu was bound to be low because of low purchasing power of the population and, instead, it was key to focus on minutes of usage, capacity utilization of the network, and profit margins.
“Even as others focus on Arpu, we continue to believe that minutes of usage is what we should be looking at,” Manoj Kohli, chief executive of Bharti Airtel told Mint earlier this month. Earlier, he told the paper that he and his managers felt that what really matters is how well a phone firm utilizes the network.
In keeping with that underlying philosophy, Bharti Airtel in 2003 signed outsourcing contracts with telecom vendors Telefon AB LM Ericsson and Nokia Oyj as also computer and software service provider International Business Machines Corp., or IBM. The contracts, which transferred the costs of phone and computer networks to these firms, focused on cutting down costs while at the same time throwing in incentives for better utilization of the infrastructure.
Ericsson and Nokia would get a base payment that would be linked to the voice traffic carried by the base stations and exchanges which are the core of a phone network, and would be a paid a pay-per-use incremental charge on that. “This way, there was both an incentive to perform better and a disincentive (that helps) to keep costs down,” chairman Mittal told Mint last year, reviewing the outsourcing deal for Mint. Besides, he had said, “there was no way we would have been able to add 20,000 towers a year (in fiscal 2007) if (we) were doing it ourself”.
An almost similar deal was forged with IBM, which received payments as a percentage of Bharti Airtel’s revenues. The arrangement, according to insiders, has sparkled for IBM — netting it revenues of some $2 billion to date. “Bharti is the most convincing case study (Sam Palmisano) can present to the world,” Mittal said earlier last year, referring to IBM’s chief executive. The vendor has since signed similar deals with India’s Idea Cellular Ltd and Vodafone Essar.
The pay-per-use deals, combined with explosive demand for phone services in a fast-expanding Indian economy, have served Bharti Airtel well, helping it combat falling call tariffs with booming call volumes. For the March quarter alone, for instance, total minutes of usage at Bharti Airtel stood at 105 billion, up nearly one-fifth from the December quarter.
“Bharti has been able to maintain healthy profit margins through better cost management and by spreading its fixed costs over a large user base, which gives economies of scale,” said Romal Shetty, who heads audit and consulting firm KPMG’s telecom practice in India.
And, although other markets such as South Africa (MTN is Johannesburg-listed), Nigeria and Iran may not offer a subscriber base any bigger than India, there are other incentives: Arpu in these markets is three times compared to the Indian average. “If Bharti can leverage its cost efficiency models with these Arpu levels, the company will definitely do well,” added Shetty.