Reliance’s quest for top spot rests with Hutchison

It is not hard to see why Reliance is ready to fight hard for Hutchison Essar, India’s fourth-largest mobile phone operator and the subject of a takeover battle.

The move would propel Reliance, India’s second largest mobile operator, ahead of Bharti Airtel to claim the top spot in the world’s fastest-growing mobile market. It would give Reliance a combined market share of 36.8 per cent; ease its roll-out of networks aimed at rural expansion; generate cost savings from merging operations; and strengthen its integrated portfolio of telecommunications businesses.

With this in mind, Reliance’s board of directors vowed last week vowed to “take all steps necessary” to build up a war chest to fend off rivals such as Vodafone of the UK and Hinduja Group of India.

Hutchison Essar is an “ideal acquisition candidate” for Reliance, says Citigroup in a recent report. “While a control premium is likely, we believe that it may be worth it for Reliance given the potential benefits.”

Even if Reliance fails, it is still poised for robust growth. “Hutch or no Hutch, we are still bullish,” says Citigroup.

A corporate restructuring has yielded results already, less than a year since Reliance listed in Mumbai. Loss-making just a year ago, Reliance spent $1bn to “clean out the past legacy” and overhaul payment systems for its mobile business; beefed up handset sales; and embarked on a marketing makeover.

A Reliance executive said: “When we acquired control in July 2005, the operations were in disarray. Prior to the reorganisation, under the previous management, the company had run up inappropriate pricing and payment plans.”

In the quarter ended September 30 2006, Reliance reported net profit of $135m compared to losses of $4m in the same period the previous year. Revenues jumped 40 per cent to $767m.

The company added 3.5m subscribers last quarter bringing the total to 26m, or 20.5 per cent market share, at the end of September.

Even without acquiring Hutchison Essar, says Shubham Majumder, telecom analyst with Macquarie Research, Reliance’s revenues will grow at a 35 per cent compounded annual growth rate over the next three years. He expects earnings per share to grow at a Cagr of 135 per cent.

Reliance Communications, headed by Anil Ambani, was hived off from Reliance Industries after a feud between Anil and his brother Mukesh Ambani

The turnround has hinged on switching from post-paid to pre-paid mobile phone services and overhauling inventory, billing and payment systems. In the previous model, customers would vanish when it came time to pay. About 94 per cent of Reliance’s new users are now pre-paid.

Reliance said: “Post-paid for the masses was not the best thing to do especially as you reached deeper and deeper into India. With prepaid, the non-collection risk is eliminated.”

A greater focus on selling handsets has also strengthened the business. Handsets were previously regarded as a low-end product but have since taken off as customers grow more sophisticated and demanding.

Through a nationwide network of thousands of stores, Reliance now sells 1m phones per month from companies such as Nokia, LG, Samsung and Motorola.

Aside from mobile phones, Reliance see significant growth in the less glamorous but highly lucrative areas of telecoms infrastructure, such as fibre-optic cables and “enterprise” networks, or voice and internet connections for businesses.

Reliance estimates that the enterprise business is a $1bn market and growing at 40 per cent per year as more large corporations set up and expand in India.

Revenues in the enterprise unit tripled to $59m and earnings before interest, tax, debt and amortisation grew eight times to more than $26m last quarter. The company has outlined ambitious plans for its infrastructure unit with an expansion of its “Flag” undersea cable system, following a 183 per cent jump in ebitda last quarter.

Meanwhile, Mr Ambani last month unveiled a $1.5bn investment in Flag and the Financial Times last week reported that Reliance is considering a London listing of Flag in an offering that could raise more than $500m.

Reliance is said to be evaluating whether an overseas listing would help the business expand faster than retaining it within the conglomerate structure – as if current growth rates were not enough.