Sri Lanka’s Telecoms industry on the path to recovery
Sri Lanka’ Telcos are in line for a triple bonanza as the island nation’s newly earned peace takes hold after a near three decade old armed conflict and the telecoms regulator moves to create an equitable industry playing field to promote new investment in infrastructure and technology, following a viscous tariff war that left almost all telecommunications service providers with losses over the past couple of years.
· Firstly, with Gross Domestic Product (GDP) forecast to grow by over 7% per annum in real terms in the next few years, demand for telecommunication and data transmission services from business enterprises is projected to rise considerably. Further, with Per Capita GDP already at a high of USD 2053, rapid economic expansion is expected to lift disposable incomes, driving demand for telecommunications, data transmission and entertainment services from individuals and households.
· Secondly, effective 1st June 2010, the Telecommunications Regulatory Authority of Sri Lanka (TRCSL) has imposed an interconnection tariff on all telcos for terminating calls and text messages on networks of other operators. A tariff of LKR -/50 is payable on voice calls and LKR -/15 on short messages (SMSs). This will enable telecoms companies to recover the cost of permitting other operators to use their networks/infrastructure.
· Thirdly, the TRCSL is also to impose a minimum tariff effective 15th July 2010 that should be mandatorily charged by all telecom service providers on all voice calls and text messages. This floor price on calls and text messages is to be imposed to prevent destructive tariff wars between telecoms operators and enable them to earn an adequate rate of return on invested capital, thus providing free cashflow for investment in new technology.
Against the above backdrop, Sri Lanka’s telecoms companies are likely to see a revival in their fortunes with the larger operators likely to benefit the most as they gain from industry presence, extensive infrastructure and brand equity.
Telecoms Industry a trailblazer
Sri Lanka’s telecoms industry has been a trailblazer in the South Asian region, being the first to introduce the latest technology to the market, be it GSM (Global Standard for Mobile) telephony, CDMA (Code Division Multiple Access) fixed wireless telephone services, ADSL (Asymmetric Digital Subscriber Line) internet access, GPRS (General Packet Radio Service) internet access for mobile telephones, Wi-Max (Worldwide Interoperability for Microwave Access) broadband services, 3G (Third Generation) and 3.5G mobile communications and HSPA (High Speed Packet Access) mobile broadband internet services. Sri Lanka now boasts of one of the most sophisticated telecommunications industries in the region, perhaps on par with many developed nations.
Telecoms Industry has grown at breakneck speed. Over the past decade, the telecoms industry has been the fastest growing area of Sri Lanka’s economy – obviously led by the mobile telephony segment. From only 925,768 subscribers in 1999, total telephone connections have rocketed to 17.38 million in 2009, implying a compound annual growth rate of 34%. Consequently, composite telephone penetration has risen from just 5% in 1999 to 85% in 2009.
Sri Lanka’s telecommunications sector is now a USD 0.8 billion industry. The telecoms industry, which accounted for a negligible amount of GDP in 1999 now contributes almost 2% directly and some 5% indirectly to national output. More importantly, the industry also contributes over LKR 30 billion in taxes to Government coffers. In addition, in 2008, the telecoms industry accounted for some 23% of total Foreign Direct Investment made in to Sri Lanka.
The telecommunications industry has also had a significant impact on the economic and social trends in Sri Lanka as the vastly improved ability to communicate both within and with outside the country and greater access to information have improved livelihoods, lifestyles and the quality of life of nearly all segments of the population.
Mobile telephony has led the way. Leading this growth has been the mobile telephony segment, with total connections rising from a mere 256,655 in 1999 to an astronomical 13,949,761 in 2009, a compound annual growth rate of a hefty 49%. At end 2009, the mobile telephone connections accounted for 80% of the total in the country. In addition to the advantage of mobility, driving this phenomenal growth has been the introduction of GSM technology (which has enabled the delivery of Value Added Services to consumers), the availability of cheaper handsets with greater functionality, lower tariffs (on account of competition amongst operators) and of course rising business activity levels and disposable incomes.
Real mobile penetration at 45-48%. Mobile telephony penetration has now reached 68% as at end of 2009, up from a mere 0.5% in 1999. However, this number is deceptive as it is estimated that 30-35% of such activated SIM cards are used by one and the same individual, implying that actual mobile telephony penetration is much lower at around 45-48%. This leaves much room for further increase in mobile telephony penetration, especially at the lower end of the market, as economic growth accelerates and disposable incomes rise.
Dialog Axiata leads in mobile telephony market. Sri Lanka’s mobile telephony market is dominated by Dialog Axiata PLC (formerly Dialog Telekom PLC), a subsidiary of Axiata (formerly Telekom Malaysia) commanding a 46% share of SIM cards activated (6.373 million) and a 58% share of sub-industry revenue in 2009. Dialog’s industry leadership has been achieved by very savvy marketing via innovative pricing, product/service offerings and technological innovation, which were judiciously combined to activate and dominate previously untapped market segments. This so called ‘Blue Ocean Strategy’ of the company enabled Sri Lanka’s telecom industry to grow rapidly over the past decade, forcing other telecommunications service providers to upgrade product/service quality/offerings to stay in business. It would not be an understatement that Dialog almost single handedly changed the telecoms industry in Sri Lanka and in doing so improved the quality of life of a vast majority of the population, especially at the bottom of the income pyramid.
In second position is Mobitel Limited (a fully owned subsidiary of state owned Sri Lanka Telecom PLC) with a share of 24% of SIM Cards (3.382 million) in the market, followed by Etisalat Limited (a subsidiary of the Middle Eastern telecoms giant, previously owned by Millicom International) commanding a market share of 17% (2.325 million SIMs). Airtel (a subsidiary of Bharthi Airtel of India, with 8% - 1.1 million SIMs) and Hutchison Telecom (owned by Hutchison Wampoa, with a share of 5% - 0.779 million SIMs) make up rest of the market.
Fixed wire-line telephony has lagged. Meanwhile, fixed wire-line telephony growth has been pedantic at best with the number of subscriber lines rising from 580,199 in 1999 to only 871,248 in 2009, a compound annual growth rate of just 4%. In fact, fixed wire-line telephone connections actually declined in 2009 from 933,536 in 2008 as subscribers shifted to fixed wireless and mobile telephony. The high cost of providing fixed wire-line connections, the inability to offer value added services, the lack of technological innovation in handsets and the relatively high cost of provision of broadband internet access (via ADSL technology) have stymied growth in this segment of the market.
Monopoly in fixed wire-line. Sri Lanka Telecom PLC, which is 52% owned by the Government of Sri Lanka (directly and indirectly) is the only fixed wire-line telecommunications service provider. The company is also 45% owned by Maxis Telecommunications of Malaysia. Whilst the company is a fully integrated/diversified telecoms operator (offering fixed wire-line and wireless and mobile telephony, ADSL and mobile broadband access and internet protocol television [IPTV]), strategic issues have caused the group to lag the industry.
Fixed wireless telephony in sunset mode? Given the relatively higher cost of providing fixed wire-line connections, the TRCSL licenced two operators (Suntel Limited, previously a unit of Telia of Sweden and Lanka Bell Limited, a subsidiary of Canada Bell, which was later sold to local liquor company, Distilleries PLC) to offer TDMA (Time Division Multiple Access) technology based Fixed Wireless Local Loop (Fixed WLL) telephones in 1995.
Then in 2004, TRCSL also permitted operators to use CDMA technology to offer Fixed WLL telephones. The CDMA Fixed WLL handsets are essentially mobile telephones with the physical characteristics of fixed wire-line instruments but connecting to a base station. Whilst the instrument provides users with a limited range of value added services, the main attraction of the CDMA Fixed WLL telephones at the time of introduction in 2004 were their mobility (although this is legally prohibited) and the fact that incoming calls were free of charge, as in the case of fixed wire-line connections. At the time of introduction of CDMA Fixed WLL telephones, mobile telephone users had to pay for incoming calls. Consequently, the mobility provided by CDMA Fixed WLL telephones combined with incoming calls being free of charge proved an instant hit, enabling subscriber numbers to rise from only 88,914 in 1999 to 2,559,560 in 2009, a compound annual growth rate of 40%. However, with all mobile telephony operators now offering incoming call termination free of charge (which is essentially a Calling Party Pays [CPP] regime), the previous advantage that the CDMA Fixed WLL segment enjoyed has disappeared.
Early adopters lead fixed wireless market. Capitalising on its early adoption of CDMA technology advantage, Lanka Bell remains the leader in the fixed wireless telecommunications market with a share of 40%. Similarly, Suntel remains second in line with a market share of 29%, whilst Sri Lanka Telecom (with 24% of the market) and Dialog Broadband Networks (a fully owned subsidiary of Dialog Axiata, with 7%) make up rest of the field.
Combined fixed wire-line and wireless telephone penetration remains relatively low at 17% in Sri Lanka and is largely due to the relatively high cost of acquiring such connections by households. Nevertheless, penetration levels are significantly higher than the 3.5% that prevailed in 1999. Fixed telephony is now primarily used in business and therefore the market for such connections has grown only moderately.
Broadband Internet – the new growth market
The Broadband Internet market in Sri Lanka is still in its infancy with very low penetration levels, primarily due to the barrier of affordability. Direct internet and email subscribers amounted to only around 240,000 as at the end of 2009 (excluding GPRS mobile internet telephone and HSPA mobile broadband connections) indicating very low levels of penetration.
Nevertheless, the technology available to consumers is on par with most developed nations, ranging from ADSL fixed wire-line services to Wi-Max fixed wireless broadband access, GPRS mobile telephony internet to HSPA mobile broadband internet connectivity (both for mobile telephones and Desktop/Laptop Computers).
As of end 2009, the broadband internet market was made up of some 170,000 ADSL fixed wire-line connections, 7,000 Wi-Max fixed wireless subscribers and 63,000 HSPA mobile units. Sri Lanka Telecom, being the only fixed wire-line telecoms operator is the sole ADSL internet service provider in the country. Meanwhile, Dialog is the only telco currently offering Wi-Max fixed wireless internet access, in addition to its HSPA mobile broadband internet connectivity. However, Sri Lanka Telecom is to commence commercial operations of its own Wi-Max broadband network in the second half of 2010. Mobitel and Airtel are the other operators offering HSPA mobile broadband internet access.
Unrestrained potential in Broadband Internet. As economic growth accelerates against the back drop of peace, demand for broadband internet access is expected to surge, from both the enterprise and household markets. Currently, affordability/lower disposable incomes are the main constraints to expansion in demand for broadband internet connectivity in Sri Lanka. In addition to the initial cost of acquiring the connection and the monthly subscription charge, a computer, which is relatively new and therefore expensive is also needed to derive the optimum benefits of broadband internet access. Such outlay still remains beyond the reach of most households/individuals in Sri Lanka.
Dialog well placed to gain most from demand for Broadband Internet. Meanwhile, Dialog which has already built sophisticated Wi-Max and HSPA infrastructure, is likely to benefit most from the anticipated surge in demand for broadband internet access. Both Dialog Broadband Networks (with its Wi-Max service) and Sri Lanka Telecom (with its ADSL connectivity) currently offer maximum download speeds of 4 Mbps. Dialog is also building a high capacity fibre optic network linking major towns and cities in the country to improve quality (in terms of speed and clarity) of both data and voice services.
Dialog estimates that the addressable market for broadband internet is around 330,000 currently and is expected to grow to 4.3 million over the next four years, underpinned by increasing computer ownership, greater availability of Smartphones and other access devices and of course declining connectivity costs. Of the estimated market size for broadband internet access, roughly half is forecast to be that for mobile connections.
The Peace Dividend has arrived
The telecommunications industry is obviously poised to play a critical and catalytic role in the post conflict economic growth of Sri Lanka. On 19th May 2009, Sri Lanka’s military forces defeated the Liberation Tigers of Tamil Eelam (LTTE), a group banned in many countries for its terrorist activities, thus bringing peace to a country that had been held back from achieving its full economic developmental potential.
Peace will lift economy. With the dawn of peace, as has been the experience in other nations (such as Malaysia, Vietnam and Cambodia) that have emerged from internal strife, Sri Lanka’s economy is poised to take off. In any case, despite fighting a war which extracted over 15% of government revenue and stymied direct as well as portfolio investment, Sri Lanka’s economy has grown at a rapid 5.5% a year in real terms over the past two decades. The key to this successful performance has been aggressive economic liberalisation pursued by successive governments. Sri Lanka was the first country in the South Asian region to open up its economy as far back as 1977. Consequently, backed by the headwinds of peace, Sri Lanka’s economy is likely to grow by over 7% per annum over the next few years.
Already, tourism, construction, agriculture, fisheries, internal trade have all begun to flourish and in particular the integration of the hitherto inaccessible northern and eastern provinces (which account for one third of the country’s land mass, some 10% of the population and nearly two thirds of the coast line) with the mainstream economy has served to kick start a new and most likely a prolonged economic growth cycle. The reconstruction of the physical infrastructure, educational and health services, housing etc. in the northern and eastern provinces will obviously add further strong impetus to economic growth.
Disposable incomes to rise strongly. Underpinned by strong economic growth, Per Capita GDP (which reached USD 2053 in 2009) is targeted to rise considerably over the next few years. More importantly, with inflation being contained and the Sri Lanka Rupee likely to remain stable (on investment and labour remittance inflows) household and personal disposable incomes are expected to rise significantly in the future enabling greater affordability of value added telecommunication services, providing significant growth opportunities for telcos.
Dialog is in the north and east. The normalisation of the northern and eastern provinces also offers considerable opportunity for telecoms companies to expand operations. In addition to the state owned Sri Lanka Telecom (which had a limited legacy fixed wire-line telephone network), Dialog was the first mobile telephony company to offer its services in the region way back in 2002. In fact, Dialog began providing mobile telephony services in the northern Jaffna peninsula within 90 days of the signing of the Cease-Fire Agreement between the Government and the LTTE in 2002.
Further, following the end of the armed conflict in the northern and eastern provinces in May 2009, Dialog was the first telco to expand operations in the region, doing so within 90 days. The first mover advantage has enabled Dialog to maintain a market share of 80% in the region, which will place the company strongly to capture new subscriber numbers. The company now has 159 sites (with 300 base stations) in the northern and eastern provinces, investing some USD 10 million in 2009, and is likely to expand its footprint further.
Telecoms Regulator to support industry profitability
A vicious tariff war with the advent of new competition both in the mobile and the fixed wireless segments resulted in the erosion of telecommunications industry profitability over the past two years. This, combined with slower economic growth and thus business volumes and increased inflationary cost pressures and unprecedented high levels of interest rates caused losses at almost all telecommunications service providers. The resultant financial strain has left little space for telecoms companies (particularly the smaller players) to reinvest in new technology and expand network capacity.
Mindful of poor industry health, the TRCSL is now taking steps to improve industry profitability. In this respect, as mentioned earlier, two crucial changes are being made to the current regulatory regime as mentioned below.
· Imposition of Interconnection fee. Starting 1st June 2010, the TRCSL has permitted telecommunications service providers to recover the cost of terminating voice calls and short messages (SMSs) originating from rival operators. A tariff of LKR -/50 is payable on voice calls and LKR -/15 on text messages. This will enable telecoms companies to recover the cost of permitting other operators to use their networks/infrastructure as is the practice in most other countries. The larger telecoms operators, such as Dialog Telekom, are obviously bound to gain significantly from this move as incoming call/SMS traffic to their networks is greater from the other telcos.
· Regulated Minimum Tariff structure. Effective 15th July 2010, the TRCSL is to impose a minimum tariff that should be levied by all telecommunications service providers on all voice calls and text messages. This floor price on calls and text messages is to be imposed to prevent destructive tariff wars (as that was witnessed from mid 2008 to mid 2009) between telecoms operators. The imposition of this system of minimum tariffs is to enable telcos to earn an adequate rate of return on invested capital, thus providing free cashflow for investment in new technology and network expansion.
Telecoms sector revenues are recovering
The severe price competition between telecom operators witnessed in 2008 and early 2009, against the backdrop of new competition, slowing economic activity, high inflation and interest rates (which dented spending power of consumers) caused a marked slowdown in revenue growth in the telecommunications industry in general and the mobile telephony segment in particular. On the flip side, cost pressures continued unabated, resulting in severe erosion of industry profitability and free cashflows.
However, indications are that trend industry activity levels, having reached a plateau, is set to improve whilst revenue parameters have bottomed out commencing the first quarter of 2010. For example, key industry activity measure, i.e. minutes of usage per subscriber per month, has shown early signs of improving in the first quarter of 2010. Further, underpinned by acceleration of economic growth, revenue per minute has also begun to recover in the first quarter of 2010. Looking ahead, it is likely that with strong economic expansion, both key parameters of minutes of usage per subscriber and revenue per minute will continue to improve driving industry recovery.
Dialog Axiata’s Revenue and Usage measures are set to improve
In the final analysis, Sri Lanka’s telecommunications service providers are headed for better times commencing the second half of 2010 and it is likely that the incumbent market leaders (such as Dialog) are set to reap the benefits of economic revival, underpinned by regulatory action to preserve industry vibrancy.