Reliance Jio Set to Lose Big as Government Favours Uniform Spectrum Usage Charge

The Department of Telecommunications submitted its recommendations to the attorney general's office last week, in order to make sure it has covered all its bases.

The company will no longer be able to depend on paying a nominal 1% free for its spectrum usage. Credit: PTI

The company will no longer be able to depend on paying a nominal 1% free for its spectrum usage. Credit: PTI

New Delhi: A significant policy arbitrage potentially worth thousands of crores in the telecom industry, which new entrant Reliance Jio has sought to zealously protect so far, appears to be coming to an end with the Department of Telecommunications (DoT) deciding in principle to have a uniform spectrum charge across various bands.

Spectrum usage charges (SUC), a recurring annual fee that telecom operators need to pay in exchange for acquiring or being assigned spectrum, have, for a number of historical and economic reasons, been set at different rates depending on the specific band of spectrum. Currently telecom operators provide voice and data services on spectrum bands ranging from 800 Mhz-900 Mhz to 1800 Mhz-2500 Mhz and accordingly they cough up anywhere between 3% to 8% of their adjusted gross revenue.

However, owners of broadband spectrum (which attracts only a minimal 1% usage fee) like Reliance Jio and Airtel will be able to use fourth generation technology to offer both voice and data services by seamlessly integrating with 2G and 3G platforms.

“This essentially gives them an arbitrage to exploit the difference in SUC levied on different bands, as it’s nearly impossible for the government or any third-party auditor to segregate revenue accrued from different bands of spectrum. For instance, if Reliance Jio can offer 4G services in both 1800 and 2300 MHz bands, which attract different SUC fees, it’s impossible to determine whether the company is separating revenue appropriately as it switches between bands,” a senior DoT official said.

Last week, officials from the Telecom Commission, the DoT’s highest decision-making body, sent across their proposal which will set a uniform SUC for all bands of spectrum to the attorney general’s office for a legal opinion on the matter.

The uniform SUC could range from anywhere between 3% to 4.5%, according to people with direct knowledge of the matter.

“A legal opinion is probably being taken to ensure that the DoT has covered all of its bases. While it is being done to ensure a level-playing field, it is also a tricky subject because it applies retrospectively. Reliance Jio, which is planning a huge roll-out, will in particular argue that this is changing the rules of the game just as the first piece is going to be played,” said a senior official of a leading telecom company who did not wish to be identified.

Over the last two months, however, telecom players have joined ranks against Reliance Jio and the policy arbitrage on SUCs. A widely reported Cellular Operators Association of India (COAI) note from last month describes how every major telecom operator except Reliance Jio is in favour of a uniform spectrum usage charge of preferably 3%.

The media narrative surrounding the COAI note mostly highlighted, however, how a uniform SUC of 3%to 4.5% would reduce the burden placed on telecom companies, some of which pay up to 8% depending on the spectrum. According to a Deloitte report quoted in the COAI note for instance, a reduction in SUC by 1% could “lead to increase in economy wide investments of about 58,000 crore rupees and 3G penetration by 2.3 crore connections”.

“What is curious here is how Airtel and Sunil Mittal have decided to burn their advantage in order to make sure Reliance Jio stumbles. Airtel also owns broadband spectrum in the 2300 Mhz band which attracts a lesser 1% SUC and could use it for voice and data services. However, he [Mittal] has decided to give up his own competitive advantage to do anything to potentially blunt the upcoming Jio juggernaut,” says a former DoT official.

Arbitrage genesis

Why is broadband spectrum (2300 MHz etc) charged only a nominal 1% fee? Where this particular arbitrage crept in was during the 2010 spectrum auctions, when broadband wireless access (BWA) spectrum was auctioned off to a little-known firm called Infotel Broadband Services Private Limited (IBSPL). Shortly after the auction, IBSPL  issued 75% of its shares to Reliance Industries Ltd and was renamed Reliance Jio Infocomm Limited in 2013.

Spectrum usage charges of 5% and higher were levied at a time when the government assigned incremental spectrum depending on how many subscribers a telecom company had. When this system switched over to auctions, it decided that a SUC should not be levied per se and a minimal fee of 1% would be fixed in order to cover any administrative costs.

The other reasoning behind the 1% fee in the 2010 auctions was that broadband spectrum could be used to greatly expand rural penetration and thus should be encouraged with a lower fee. More importantly, not many people guessed at the time that broadband spectrum could be used to provide voice services. In 2013, however, this changed when TRAI guidelines on converting Internet service provider (ISP) licences to a new “unified licence” that would allow ISPs such as ISBL (Reliance Jio) to become a full service telecom operator offering voice services.

In August 2013, Reliance Jio became one of the first companies to take advantage of the new unified licences by paying a total fee of nearly 1,670 crore rupees which allowed it to provide voice services. This is what paved the way for holders of broadband spectrum to offer voice services. When combined with the assumption that operators would use a technology that worked independently for 2G and 3G, it becomes clear how the current policy arbitrage and issue of segregating revenue earned from different brands came into existence.

Impact on Reliance Jio?

Forcing Reliance Jio and other users who banked on the 1% broadband spectrum arbitrage to cough up higher revenue-based SUC could be devastating for players that focus on loss-leader, top-line, market share centric strategy. For most of 2015, many analysts and commentators assumed that Reliance Jio would embark on a price war and scorched-earth approach that would allow it to make up for time lost.

In recent months, Jio officials have stressed in media interviews that the company will not fight on cost but rather on the quality of services and app ecosystem provided. Jio’s initial pricing plans, however, do indicate that at the very minimum a short-term pricing war is in the offing: Some of the promotional offers floating around include 75GB of 4G data and 4,500 minutes of calling time for a highly affordable 200 rupees. While tariffs may be hiked and rationalised as the promotional offers wind down, it does appear that balance sheets will bleed in the first three to six months of launch.

Even if tariffs are eventually raised, Reliance Jio is also subsidising its hardware strategy. One long-standing point that analysts raise regarding the roll-out of 4G is that there aren’t cheap 4G smartphones. To combat this, Reliance Jio is importing its ‘Lyf’ brand of 4G smartphones into India by the bucket loads. An IDC report stunned observers and analysts when it noted that Lyf accounted for “7.1% of India’s smartphone market” during the first quarter of 2016. In doing so, it beat out Lava International in becoming the fifth largest smartphone company in India by shipments.

Apart from smartphones, the company also plans on offering heavily discounted mobile Mi-Fi devices. Mi-Fi devices, used to create hotspots and allow multiple users to connect to 4G networks, are generally priced at around 3,000 rupees. Reliance Jio plans on offering a 50% discount on these devices, according to Telegraph India.

If Reliance Jio can no longer count on paying a nominal 1% fee, will its strategy have to change? “If the company was banking on shoring up some of its potential, short-term losses by exploiting this arbitrage, and it looks like it was doing so, then it will hurt deeply. But it’s sunk too much and committed too deeply at this point. It can only move forward,” said a long-time industry watcher who declined to be identified.