vada pav,” roared Mukesh Ambani in September 2016 at the launch of Reliance Jio, the latest telecom entrant in an overcrowded market. One gigabyte of data used to cost about Rs225 in those days, and vada pav, Rs12.
Fast forward a few years – inflation has caught on to
vada pav (it now costs Rs15), but data now costs less than Rs10 a GB. In today’s article, we go down memory lane on how predatory pricing revolutionised telecom, and how the incumbent, Bharti, still came out stronger on the other end. And why the same tactics cannot be deployed in other sectors (like cement) to make it stronger for longer.
India’s modern telecom saga began in January 2008 with the Department of Telecommunications issuing 122 licences to 9 companies. By October 2010, two of those awardees (Swan Telecom and
) offloaded stakes to foreign players, raising billions of dollars each. In November 2010, however, the Comptroller and Auditor General of India raised irregularities in the issue of licences and tabled a report citing huge losses to the exchequer.
By February 2012, the Supreme Court came down hard on the issue and cancelled the 122 licences. Several players like Uninor with 36 million subscribers, Sistema (15million), Videocon (5million), S Tel (3.5million), Loop Tele (3.2million) and Etisalat (1.7million) were affected. Wireless subscribers in 2012 were just over 900 million and grew only at a slow pace to over 1 billion by August 2016 until Jio started operations. At the time, Bharti held a 25% market share, Vodafone 20%, Idea 17%, Aircel 9%,
8% and Tata and Telenor about 5% each.
Then, on September 5, 2016, came the Jio Welcome Offer – offering free data, SMS, calls and apps. Initially, the offer was to stay in effect for the first three months, but Jio kept extending it under new names (Happy New Year, Dhan Dhana Dhan, etc.). Effectively, telecom users enjoyed free Jio for over 10 months, and incumbents realised that the “difference between 2 cents and 1 cent was large, but the one between 1 cent and Free was insurmountable”. In the first month alone, Jio gained 16 million subscribers. By December 2016, Jio had over 6% market share, which rose to over 11% within one year of launch.
While the large incumbents were distraught, the smaller ones found it difficult to survive as the average revenue per user per month (Arpu) fell over 40% over the next three years. Aircel-Maxis shut down in 2018 after a failed merger with
. Telenor in 2017 announced plans to merge with Bharti, the same year when Vodafone and Idea announced a merger, and the smaller players (Loop, Sistema, , Etisalat, Videocon and ) just wound up.
Today, the picture is quite different: Jio has a 36% market share, Bharti 31% and Vodafone-Idea 22%. Bharti’s India Arpu, while rising over 80% (to Rs183 in 1Q23 vs. Rs100 in 2Q19) from lows, is not yet back to pre-Jio levels. Regardless, larger number of subscriptions, controlled costs and better operations now result in Bharti earning more EBITDA in six months compared to its 2016 annual India EBITDA. Whatever doesn’t kill you makes you stronger, right?
That got us thinking – why can’t cement companies deploy the same playbook? Capacity has crossed 550 million tonne (mt) but the demand is not even 350mt. On average, cement companies’ return ratios are lower than their cost of capital. Per tonne EBITDA today (cRs800/tonne) is lower than in 2008 (over Rs1,000). When cement sells for under Rs6 per kg and players earn not even 1 rupee per kg, why would not, say, an
(the largest player, among the most efficient ones, and one with a strong balance sheet) not just go for the kill? Reduce prices by 25% for 3-4 years, gobble up the weaker and debt-laden ones in mergers and acquisitions, thereby increasing market share to more respectable levels (from current c20%) and emerge stronger at the other end of the war. Jio did it after all, why can’t Ultratech?
Well, there are many reasons why we haven’t heard of the war bugle yet. Before we go there, let us briefly look at the history.
Phase 1 (pre-2008): Cement is a perfect hub-and-spoke model with South and West happy to supply to Central and Eastern regions. At 190mt capacity and c167mt consumption, utilisation rates are in the mid-90% and per tonne EBITDA between 2005 and 2008 has doubled.
Phase 2 (2008-2022): Holcim Group (c24% of capacity in 2008), given the overcapacity, announces that it has virtually no plans to grow. In this phase, its incremental capacity market share fell to under 6% (vs 24% in 2008), which allowed the then smaller players like
to grow capacity from 15mt to 50mt and Dalmia from 9mt to 40mt, besides allowing Ultratech to become the largest player by a margin.
Phase 3: This phase of the Indian cement sector starts now. With Adani buying Holcim India and announcing plans to triple capacity, everyone wants to grow now – the fight for capacity and volume market shares will now begin. Large players have deep pockets, so why not go for predatory pricing? Well, for several reasons.
One, logistics play a large part; demand must be serviced from nearby cement plants. It means that even the largest company is fighting several different players (more than 30) in different markets. It is difficult to open that many fronts in any war situation. Two, the strength of many smaller regional companies lies beyond just cement; they have land banks and real estate. Also, many such promoters have deep pockets in an individual capacity. Keeping prices low enough for them to fold is tricky. Three, once you sell a sim card to a customer, he stays a customer for a long time. Unlike that, each bag of cement purchased is a new decision. Customer stickiness in telephony is way higher than that in cement. And last, shutdown and restart costs in cement are too little (unlike, say an aluminium smelter). If a leader follows predatory pricing, the smaller company might just shut down for a bit and come back once prices pick up. Telecom companies could not do that given high debt and customer stickiness.
Well then, what really is in store for the cement sector? The capacity utilisation rates, today in the mid-60% range, will likely stay put despite higher demand (as new capacity comes in). That will likely keep the pricing power for the incumbents elusive and the return ratio low. Corporate managements looking to acquire a cement capacity at around $175 per tonne will note that EBITDA per tonne needs to increase to over Rs2,500 per tonne (vs. current Rs800) to generate 15% ROE. The ask for secondary shareholders paying close to Rs200 per tonne for top players is even higher.
Cement is a beautiful business – one with regional flavours, many moving parts, clean balance sheets and where many companies make decent money. There will be years when the sector makes a lot of money, which is then followed by a lull. It has the characteristics of a commodity business – and arguably, we are now entering a new phase in the cement cycle. Given that (a) predatory-pricing-driven consolidation is not an option and (b) capacity utilisation will likely stay low limiting pricing power, the management and investors alike will have to think afresh regarding the fair value of listed cement assets over the long term.
(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of Economic Times)