Column : Sanity flows from 2G auction

Written by MK VENU | M.K. Venu | Updated: Nov 21 2012, 06:36am hrs
The tepid response to the auction of 2G spectrum has many lessons for various actors linked to the telecom sector, including the Comptroller and Auditor General (CAG). One important message for the telecom companies is that auction does not always drive up costs, as has been propagated by the industry. This time around, the auctions actually helped in bringing some sanity to the sector bedevilled by all kinds of problems. The auction-discovered price led to a re-rating of major telecom companies, with big broking houses raising the future earnings potential of these companies as reflected in the increased target stock price of the dominant telcos. Not many new players rushed to bid for spectrum at the all-India level this time, thus limiting the possibility of further fragmentation of the telecom market.

Bharti Airtel CEO Sanjay Kapoor rightly observed that the current auction actually signals a phase of consolidation in the telecom sector, which in recent years witnessed a veritable race to the bottom with too many players trying to grow their subscriber base by reducing prices to rock-bottom levels. The economics of the telecom sector is such that the average return on capital is probably close to zero and the industry as a whole is reeling under a massive debt of over R1.85 lakh crore. Given this scenario, and the fact that the voice market is saturated at about 900 million subscribers, it was hardly a surprise that the auctions got the response they did.

To give you a comparative idea, in the irrationally exuberant era of A Raja (2007-08), when every telecom operator was seeing a pot of gold at the end of the rainbow, there was demand for over 525 telecom licences, all in a queue which Raja played around with. In the current auction, hardly 30 licences were sought! How times have changed! In 2008, the telecom subscriber-base in the country was just 230 million and growing at over 100 million a year. Today, it is saturated at about 900 million and recent months have seen a negative growth in the telecom subscriber-base.

So, the auction has helped in discovering a market price which takes into account the new reality. An auction does not always discover a price that kills the market. It merely reflects the exuberance or otherwise of players who bid for the scarce resource. In 2008, there was excessive enthusiasm and in 2012 the situation is just the opposite. The auction process reflects both sentiments.

The current auction also makes the CAG estimate of the presumptive loss of R1.76 lakh crore completely bizarre. This figure had got converted into a political slogan in various elections. The notional loss of R1.76 lakh crore was based on the discovered price at the 3G auction in 2010. In retrospect, it seems clear that there was over-enthusiasm at the 3G auction too. The telecom players are also responsible for not being able to assess future risks to business.

Unfortunately, the CAG used the irrational exuberance of the telecom players, as derived from the market values of their stocks during peak periods, to calculate the presumptive loss to the government. In fact, the fall in the telecom sectors stock values may roughly correspond with the fall in the auctioned value of the spectrum once the reserve price is brought down further and the process is completed in due course.

There is a fundamental problem if the CAG uses values derived from current market sentiments to calculate notional loss. The stock market is very fickle. In the case of telecom sector, the stock index has possibly fallen by roughly over 60% in recent years. So, estimating presumptive loss to the government based on market sentiment during periods of irrational exuberance is fraught with dangerous consequences.

The CAG must evolve a more stable methodology to assess whether public resources have been given out by the government in a manner that has benefited the people/taxpayer at large. The CAG may, for instance, look at whether coal blocks given away virtually free to power producers indeed translate into reasonable tariffs to end consumers. This is a much more rational exercise than looking at whether the government has maximised its revenues in the first place based on current market sentiment. A more balanced approach could be to evolve a method of auctioning that brings transparency on the one hand and neutralises irrational market sentiments that are bound to creep in during periods of upswing. This remains a challenge for public policy.

For instance, the telecom industry lobbied hard in the late 1990s to move away from the high auction-based licence fee regime saying it would kill the nascent sector. After much negotiation with the government, the sector moved to a revenue-sharing arrangement. There was great relief all round. But the subsequent 10 years showed the companies ended up paying far more as revenue share to the government than they would have if they had stuck to the high licence fee regime. The CAG could have castigated the government in 1999 for sacrificing massive licence fees committed by telecom operators to be paid over 10 years. That the sector would grow so fast as to bring the government revenues way higher than the prohibitive licence fee regime is something that dawned with the benefit of hindsight.

The experience of the last four years has been, in a sense, the reverse of first five years, after the revenue-share arrangement came into being in 1999. At that time, the industry and government got a positive surprise as the sector did much better than expected. However, in the last four years, the industry has done much worse than expected. Business cycles, after all, prove to be great levellers for policymakers and auditors!