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Summary:

Vodafone historically has been one of the worst telecom operators when it comes to mergers and acquisitions – bad deals, ill-timed exits and overpaying are part of company’s legacy. By putting a valuation of close to $19 billion for Hutch Essar, the third largest mobile company […]

Vodafone historically has been one of the worst telecom operators when it comes to mergers and acquisitions – bad deals, ill-timed exits and overpaying are part of company’s legacy. By putting a valuation of close to $19 billion for Hutch Essar, the third largest mobile company in India, with about 24 million mobile subscribers, the British giant has ensured that legacy remains unchanged.

Vodafone will pay $11.1 billion for the 67% stake in the company that is currently owned by Hutchinson Whampoa of Hong Kong, thus bringing an end to the circus around Hutch Essar. Vodafone beat out local rival Reliance and some wannabes like the Hinduja Group

toifrontpage.gifIt is fascinating to see the deal drama first hand – television networks in India are giving it top billing, while the newspapers have put out headlines that are normally reserved for a news event with national or international impact.

Most, if not all are enamored by the big price Vodafone is willing to pay in order to enter what is now one of the fastest growing mobile markets – in subscriber numbers if not revenues. Arun Sarin, the CEO of Vodafone has been under pressure to do something about “emerging markets” and that includes over paying.

The deal puts the valuation of a subscriber at about $835, even though the average revenue per user is $9.4 a month, roughly $112 a year. It also has a pretty high churn rate compared to a typical US carrier. For a typical US mobile carrier, ARPU is $50 a month, and the churn rate hovers around 1.5% per month or 18% annually.

Wharton marketing professor Raghuram Iyengar has crunched the numbers and feels that if Hutch has a margin of 45% and a churn of 1.5%, then the price per subscriber should be around $790 per subscriber. Another metric to arrive at a valuation of Hutch would be to measure the EBITDA per subscriber minus the capex over the life time period of that subscriber. (I have contacted a few analysts for their estimates on Hutch Essar, and will update the report later.)

The problem is that Hutch’s ARPU is in decline, and it is going to be tough going in this hyper competitive market that is very price sensitive. Most GSM carriers are facing a spectrum crunch, and will need to spend to upgrade their infrastructure to support a growing number of subscribers.

Vodafone is likely to face those bills, and also might have to deal with 3G upgrades in the near future as well – a strategy that may help boost the ARPU eventually. Nevertheless, on this deal we would go with the wisdom of the seller – Li Ka-Shing. He buys low, finds a sucker, and sells it really high, before the market tips over!

(Meanwhile, Bharti Airtel will buy back 5.6% of Vodafone’s stake in that company for $1.6 billion, a deal that has made money for Vodafone, mostly because its Hutch bid has inflated the telecom valuations in India. Vodafone had bought 10% of AirTel for $1.5 billion in 2005.)

  1. 3G upgrade in India is going to take more than a year from now, due to frequency spectrum issues.

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  2. Perhaps longer from what I am hearing here. I think it is still an issue and is going to cost them some serious cash.

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  3. If Vodafone can help accelerate Hutch’s network rollout in more rural areas in India as well as help to grow Hutch’s content offerings, the company will have a better chance of gaining some value from this deal. Bharti-Airtel and Reliance already have a 6-9 month head start because they currently operate in all 23 telecom circles of India — Hutch only operates in 16, but has applied for licenses in the other 7.

    Despite the large price tag associated with the purchase (too much), the reality is that India now has 140+ MM subscribers and less than 20% penetration. Low/declining ARPUs are certainly an issue, so effective monetization is the name of the game.

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  4. There is more than meets the eye here with an extensive infrastructure sharing agreement between Bharti and Vodafone. Bharti will in one way or another always be part of Vodafones end-game in India.

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  5. It appears that Vodafone and Airtel have signed an agreement to share their network infrastructure. That is something to be factored in when you talk about the growth and future ARPU for Vodafone in the second-tier and rural areas.

    According to a Bloomberg report Vodafone paid a little over $900 for each Hutch-Essar customer.

    Kamla

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  6. “bad deals, ill-timed exits and overpaying are part of company’s legacy.”

    Hmm. Maybe you should stick to the US market. Voda has one of the best dealmaking histories in the industry. Buying Mannesman for stock and selling Orange for 30bn in cash? Creating Verizon Wireless? Telsim? Sure, they’ve had a few mis-steps, but if they’re the worst what about BT? Or France Telecom – remember their German adventure? Or DT?

    Personally, I alwways rely on marketing professors for valuation tips ;) This isn’t a ARPU-based price, let alone a per-sub price – it’s a growth price, in a market at 10% penetration. Vod is betting that it can make enough money from all this

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  7. bge,

    i would give you that verizon wirless deal is an excellent one. just to counter your point, Japan and the money spent there would be a good start.

    also, on the issue of buying into a market for growth is generally a good idea, but not such a good idea when the top 10% of the market has already been skimmed. they will have to build out in rural india, upgrade their infrastructure in major cities and compete in a price sensitive market (ARPU declines)

    lastly, come on the professor has a nice analysis despite being a marketing pro. lets not hold against him ;-)

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  8. Vodafone has a habit of paying in stock rather than cash which has enabled it to do some great deals.

    In someways, it’s faltered when it hasn’t been bold enough, while it owns a huge chunk of Verizon, it doesn’t have much control and does get any dividends, perhaps it would have been better buying AT&T’s mobile operations instead (it’s the right technology for starters)

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  9. For Vodafone I guess there are couple of high priority agenda
    Upgrade 3G network: – This will enable them to offer more service and hence increase in revenue per customer
    Install new network in rural area: – This will attract new customer, but I guess main point is what does rural base customer wants? Is it speed or reliability?

    I like the way whole Wireless industry is growing in India

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  10. Well can you explain to me why Vodafone’s stock went up and Reliance Communication’s down ??
    I will start with this i disagree with you.
    This is a great deal for everybody and this is they last deal in indian market which happens to be fastest growing market.
    As far as ARPU is concerned Hutch’s is definitely is highest and as you may know they have costumer who are ready to pay premium over other for better quality.

    I know because my father happens to be a hutch costumer and recently changed his number but still kept hutch as the service provider.

    Wanna bet that this is going to be a good deal even in you eyes in next 2 year ?

    -anmol

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  11. [...] Expert commentators, such as Om Mallik, think that Vodafone has over paid and that this is just another example of its inability to get M&A right. [...]

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  12. Very old Comment

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