ISB’s Bapna and Stern’s Sundararajan: ‘Spectrum Revenues Should Be Used to Subsidize Infrastructure Roll-out’

How do prices for third generation — or 3G — mobile spectrum in India compare with those in other parts of the world? How should prices for 3G mobile licenses be determined? In the second half of a two-part interview, India Knowledge@Wharton posed these questions and more to Ravi Bapna — a professor of information systems at the Indian School of Business in Hyderabad and executive director of the school’s Centre for Information Technology and the Networked Economy — and Arun Sundararajan, a professor at New York University’s Stern School of Business. Their response: While it is hard to provide specific numbers for pricing, the Indian mobile market is getting close to 250 million subscribers, and Indian mobile operators should have several opportunities to make money.

Knowledge@Wharton: How does the expectation for the prices for the spectrum bands that you just spoke about compare with pricing elsewhere in the world, both in the developed markets and emerging markets? How much do you think might be too much too pay for the 3G licenses?

Bapna: I would hate to put a number [to that], but my view is that there is a viable case. If you just look at, let’s say, the Hutch-Essar valuation recently, the World Phone deal, I think the numbers that you saw there have justification — even with the low ARPU’s (average revenue per user) that you see in the Indian market…. In India it is about $10 a month on average, essentially across all the operators. Of course, Hutch has the higher segment of it, and there are others. I think the growth story is such that they are talking about getting up to 250 million subscribers this year, 500 million by 2010.

My sense is that companies will be able to make a good amount of money. If the regulators are sensible, using perhaps the kinds of subsidies that we are talking about, then the role of the auction becomes more about finding out who is really serious about this. So it is [about] trying to get the information that is otherwise hard to get out there. And then also tying it back to who is taking it out to the rural sectors and who is being innovative.

Sundararajan: And just to add to that point on tying spectrum revenues to subsidize subsequent infrastructure rollout, an additional advantage it has, over and above making sure that people who have the spectrum are not just sitting on it instead of rolling it out, is that it actually elicits far more information about the operator’s ability. It is not just about the operator’s ability to raise money in order to get spectrum; it makes the operators think deep and hard about the extent to which they are going to actually be able to implement the rollout of the infrastructure.

In terms of putting a number to this — again, this is something that I would hesitate to actually commit to, but I do know that the benchmarking that was done to set the reserve prices was done in a fairly conservative way. For instance, they left out South Korea as a benchmark country because that would have raised the reserve price. So my expectation is that the bids are going to be well in excess of the reserve prices.

Bapna: I think mention should be made of the conundrum that the government is getting into with, again, the Defense Ministry. Earlier, I think they were estimating something close to Rs. 1,000 crore for the cost of getting their infrastructure. But the Department of Defense is saying now that it is actually going to be four times more than that…. It’s the cost of getting the spectrum and re-farming it out.

So, that has to be recovered. And then I think a good regulator would also try to encourage the operators to move in the direction of, again, taking it out to the rural areas. So I think an auction can be the line to take care of these issues. It is just a matter of getting good leadership right now, I think.

Sundararajan: And if you run some back-of-the-envelope numbers as we have done, it looks like the infrastructure rollout costs over the next few years to get to that target of a few hundred million subscribers are going to be on the order of a minimum of $20-25 billion. But the flipside is that the revenue opportunity is actually extremely large given the numbers.

Even if we stay at the average revenue per user of a few dollars to $10 per user, which is conservative, given that the scope of the services that are going to be supportable using 3G and beyond are going to be far larger, willingness to pay is going to be higher. It would seem like the willingness to pay or the bids that we are going to be seeing for the licenses — if you compare that reserve price of Rs. 1,500 crore with this opportunity, that seems like it’s going to be exceeded.

Knowledge@Wharton: Should the two government-owned mobile operators, Bharat Sanchar Nigam Ltd. (BSNL) and Mahanagar Telephone Nigam Ltd, get spectrum without bidding for it at auction?

Bapna: No, I think they are competing just like everybody else out there. I don’t see any specific reason why they should be treated differently. They have the biggest reach right now. It behooves them to make strategic alliances, share their infrastructure with other operators and play with them. So I think as far as the spectrum is concerned, I don’t really see a case for treating them differently.

Sundararajan: Yes, the only rationale might be that you want to make sure there is some attention paid to rolling out infrastructure in the rural areas, as opposed to just having it focused in the urban areas. One of these two, I think that BSNL is focused on that, but it would seem that rather than allocating them spectrum exclusively and outside the scope of the auction, the government might be able to better implement this kind of rural rollout using subsidies to private operators rather than a centrally owned government authority being given the responsibility to do that.

Knowledge@Wharton: In the past, the fastest growth of mobile telephony in India has come from the cities. In the future, more and more mobile operators are targeting the rural market. Do you think that 3G technology matters as much to rural consumers?

Bapna: No, I think the primary users are going to be in the metros, in the large cities. But again, I think if you look at the overall usage, you have to free up the spectrum, which is getting really crowded in these areas. So essentially, the market has to separate out, and I think 3G will allow that. It’s interesting that [this conversation] started about networks not being available: If you can move the high-end segment out to the 3G, that makes a lot of room for expansion at the base of the pyramid. I think that’s the way it’s going to rollout.

Sundararajan: And to some extent, the span of services that rural consumers are going to want is clearly going to be a lot less than what the urban consumers demand. The revenue potential is going to be less in the rural areas. You could argue that this is perhaps the most viable way to get any form of Internet connectivity to a vast majority of the country.

I think the TRAI has been somewhat thoughtful about choosing the right technology. They have chosen a lower bandwidth, a lower region of the spectrum that actually has characteristics of it that are more amenable to rollout in rural areas in terms of power requirements and so on. So yes, it’s not going to be a great revenue opportunity relative to the urban areas, but it is going to provide essential infrastructure. Internet connectivity versus no Internet connectivity is probably going to rest on 3G and subsequent technology rollouts for the rural areas.

Bapna: Again, as information systems scholars, one of the things we tell our students is that there is always an option value that is out there. You don’t know how these things unfold. The rural segment could well surprise us in terms of the usage. Of course, there is a big market for micro credit, for insurance and for all kinds of services to get out there.

Sundararajan: We have seen wonderful things happen with the ITC’s e-Choupal Platform, for instance, where you had a platform for procuring soybeans that has grown now into this extremely successful wide-reaching rural channel. So, I agree with Ravi. Who is to say what actually might be the business potential of these lesser-developed areas?

Knowledge@Wharton: Dayanidhi Maran, India’s IT Minister, has just resigned. Is his resignation related to developments in the mobile market, or does it have to do with the state of politics in Tamil Nadu, his home state?

Bapna: I think it is the latter, and I am happy to see that I think the Indian economy has moved beyond being, let’s say, manipulatable by a single individual. So I think that robustness is there, and people realize it [and] the industry is serious about it. So yes, I think Mr. Maran was progressive. His tenure in the Ministry was good for the country, and I hope the trend will continue.

Sundararajan: Yeah, I do actually seriously hope that kind of event doesn’t place a serious roadblock on the infrastructure rollout in India. As we may have reiterated, this is critical for the country’s sustained progress, and to see this sort of story get held up because of political issues would be unfortunate and may actually slow foreign investment in general into the country.

Knowledge@Wharton: Do you see any potential impacts on the 3G auction process, though, with the appointment of the next IT Minister?

Bapna: Well, I think the more important issue is that the Defense Ministry and the Telecommunications Ministry need to really sit down together — perhaps under the aegis of the Prime Minister’s office — and take this as a national priority and resolve the issues. I think that is the key issue, and I think once that gets held, the spectrum should get rolled out. The operators are ready. Talking to them, they are just waiting for the regulatorycholesterol” to sort of disappear and they want to start making money.

Sundararajan: And if they do decide to make any changes to the mechanism by which they are going to be allocating the spectrum, the one that we would both suggest is the tying of license revenues to subsequent subsidies for infrastructure rollout. We get the feeling that this is going to accelerate deployment substantially.

As Ravi mentioned, there are at least three layers here. You’ve got device manufacturers. You’ve got infrastructure and service providers. And you’ve got content providers. And unless there is a strong enough belief among the content providers that there’s going to be sufficient infrastructure fast enough, the content is not going to appear. If the content does not appear, the value of the infrastructure as perceived by the consumer is lower.

As a consequence, sales of devices don’t reach the level of scale where the price point can fall to mass adoption. So this is a value network where rapid deployment of infrastructure, at least in my opinion, seems to be the point — where there should be government action that is accelerated to the extent [that’s] possible.

Knowledge@Wharton: Let’s look now to the future. You refer to the fact that in just a matter of a few years, you could have 500 million mobile users in India, and a good number of them could be using their mobile phones as the primary way to access the Internet. What do you think this means in terms of a business opportunity for the mobile operators, but also in terms of the global market for mobile services?

Bapna: If you think about the business opportunity for the operators, I think the numbers are there to support a very strong case. I don’t see the industry slowing down to the extent that you won’t see mergers or acquisitions happen, at least in the near future. So there is still a lot of market to go out and get.

What would be interesting to see is … if India becomes the emerging market laboratory for the world — the handset manufacturers are serious about that. Nokia has a big manufacturing facility now, and they are trying to look at ethnographically how people in emerging markets would use the phone differently. So, things that they can learn from [India] probably would translate well into other emerging markets all over the world.

Overall, I think the picture looks good on these fronts. But getting these three or four key constituencies aligned in one direction, particularly the content side and fostering innovation … part of the weakness is that the research community out there hasn’t really taken innovation as a way to go out and create new applications so far. But I think it is happening now. If anything can be done to accelerate that, it would be awesome.

Sundararajan: Yeah, it would seem like there are certainly going to be new forms of the use of mobile infrastructure that are going to be invented in the context of India’s use of it, because of the fact that it is going to be such a large-scale and it is going to have very few other substitutes. For instance, it’s not inconceivable that your phone becomes an important form of making payments, and I have actually seen a few business plans for this in India and other countries.

As the deployment gets more widespread, this is certainly something that might take off. But yeah, I just wanted to reiterate the point that a lot of what’s going to happen will depend on the nurturing of innovation in the provision of applications and retailing platforms and content. This might be something that the service providers or the infrastructure orders might want to nurture through the kinds of development networks that Ravi mentioned that we see other companies like Microsoft, Google and Yahoo fostering here.

The infrastructure, once put in place, along with the spectrum and the ability to carry this back and forth, is like a platform. But the value of this platform is going to be highest when it has a whole bunch of content and applications and things that plug into it. And there is certainly going to be a lot of unique application development in the India context.

Bapna: Yeah, and as the cost of handsets goes down and as you can get GPS into the functionality out there and you have location-specific information, I think there are a lot of interesting political opportunities. We are actually involved at the advisory level in a couple of start-ups that are looking at location-based social promotions and couponing. I know the people at Google in India are pretty serious about it …. So I think it is probably going to be interesting in the next couple of years, at least.

Sundararajan: Yes, and the urban areas — Ravi alluded to this earlier — but if you see what has happened in Japan with the explosion of high bandwidth mobile adoption, a lot of teenagers actually see this as a space that they occupy which is distinct from their physically built space. This is a consequence of the fact that these are densely populated urban areas and kids don’t actually have their [own] space.

There is some parallel that you might see in the context of India as well because this is another densely populated area where a teenager might see this as their space. So I think the potential for social change in the next generation of kids who adopt these devices early is going to be immense. One might argue that to the extent to which this fosters social change or changes in the way people interact with each other might even outweigh the business impact it will have, at least in the short term.

Bapna: I think for us, as researchers, there are tremendous opportunities to go out and really examine these things. That is really exciting. But I think what Arun is mentioning here is important, because again, the Asian societies, the way we are structured, is somewhat different. There is this parental influence…. All of us have grown up as children, you know kids out there. Maybe these kids see the mobile phone as a way to have a party with all their friends and the parents don’t even have to know about it.

Sundararajan: I know. You have seen in a lot of business schools — like my colleague Lee Sproull, for instance, who has studied for 20 years how technologies like this change communication patterns within the context of an organization and employees — you will see research on the impact of technology that expands well beyond the confines of the organization and actually starts to affect interpersonal [relationships] … The importance of these things starts to grow dramatically when it moves from being an employee-to-employee interaction to being a business-to-consumer interaction, or most importantly a consumer-to-consumer interaction. So, it’s certainly going to be an exciting time.

Knowledge@Wharton: So, if all goes well, how soon will we see phones in the hands of rural teenagers? Three years?

Bapna: Well rural teenagers, probably at least in some parts, do have phones already. But you’re right — the vast majority of people are still not connected and the towers are not there yet. But my guess is … some part of the first quarter of 2009 probably should be a good target number. I think the industry is ready. Believe me. I think they are just waiting for policies to fall into place.

Sundararajan: I would probably be a little more conservative than that — maybe in three to five years. We are certainly going to see them [in the hands of] urban teenagers a lot sooner than that. But this, perhaps, reflects the fact that Ravi is the eternal optimist when it comes to the potential of technology in India, and he is generally right about it.

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