Is this the end of an era for Gulf telcos?

The easy days of double-digit profit making are gone. Gulf telcos are having to fight for market share amid more competition, a saturated marketplace and the rise of the tech-savvy consumer
Is this the end of an era for Gulf telcos?
By Massoud A. Derhally
Sun 16 Sep 2012 09:03 AM

Long gone are the days when Middle Eastern telecommunications operators, flush with liquidity, went abroad and snapped up companies — spending over $40bn in the process — only for retrenchment to follow in the wake of the global credit crisis and the subsequent fall-out from the Dubai debt crunch.

Companies like the UAE’s Etisalat and Kuwait's Zain who spent billions to expand their reach outside their home markets were not always able to extract the value they had originally hoped for. As credit became tighter after the onset of the global debt crisis in 2008, firms had to revisit their strategies.

While Etisalat can point to successful ventures in Egypt and Saudi Arabia, the story isn’t the same for Zain. In June 2010, Zain sold Zain Africa to Bharti Airtel for $10.7bn. The sale overnight cut Zain’s operations in Africa to seven countries from 22. Then, in 2011, a $12bn bid for a 46 percent stake in Zain by Etisalat failed to take place and the sale of the Kuwait group’s stake in Zain KSA (its Saudi unit) to Kingdom Holding and Batelco also failed. Even Etisalat has had to retrench; from India via its partner's disastrous application for a licence, and from Indonesia, where it announced last week that it was selling a stake in its unit there.

“Sometimes euphoria gets the better of you and you buy at bubble conditions and then things don’t materialise as you expected,” says Jawad Abbasi, founder and general manager Arab Advisors Group.

A good example is Zain KSA, which paid a hefty $6.1bn for the third mobile licence to operate in the kingdom for 25 years. However, market conditions didn’t quite turn out as planned. The company, which is 37-percent-owned by Zain, and competes against state-controlled Saudi Telecom (STC) and Etihad Etisalat (Mobily), has yet to turn a profit since it started operating in the kingdom in 2008.

While Mobily is profitable, growing and has good market share, debt-strapped Zain KSA will find a recovery all the more difficult as mobile penetration in the country has peaked to 188 percent and competition is strong.

STC leads the market in the kingdom, followed by Mobily, which has about 41 percent share. Zain KSA has about 14 percent, according to Hasan Sandila, a senior telecommunications analyst at IDC.

“The problem now isn’t one of penetration,” says Abbassi. “In a strong competitive market other operators are not readily willing to give you market share, and they’ll reduce rates so even if you have growth, the revenue side of it is not robust.”

The landscape of the industry in the region and the world has changed. As technology advances, customers in turn have become more demanding. They expect greater variety of services, which require better broadband and higher bandwidth, which in turn means companies need to be more innovative as they seek to capture greater market share. At the same time, competition has become more fierce as conventional players are no longer traditional key opponents.

The playing field is more dynamic and challenging as non-conventional players like social networking sites and smart phone manufacturers redefine boundaries, and where internet phones and services like Skype impact operator revenues.

So instead of sitting back and raking in the profits, today’s telcos are trying to keep up with the tremendous advances in technology. As Ghassan Hasbani, CEO of STC’s international operations, succinctly told this magazine earlier this year: “people are used to getting free stuff on the internet”.

“The purchasing behaviour has changed,” Hasbani added. “So the way we mitigate that risk and deal with that challenge is to collaborate with the over-the-top players, so they get value, we get value and together we both add value to our customers. How do we do this? By building smart networks — or smart pipes, instead of dumb pipes. We create algorithms in our networks to efficiently deliver the service required to the individual at the right price.”

In short, those telcos that stand still are likely to be punished.

“The name of the game is that you’re not the sexy beast that you used to be five or six years ago,” Abbassi says.

A few years ago, the focus was all on growth. As the markets have changed, matured and become more competitive, the new story is really one about operational efficiency for telcos, where costs are reduced, where companies reorganise, outsource certain functions and can then focus on strategic investments while anticipating shifts in consumer behaviour. That can then help enhance the overall quality of their product offering.

“The age of rapid growth is coming to an end in most of the markets,” Abbassi says. “When a company is growing its revenues 100 percent a year and profits by 60 to 70 percent a year, you don’t fully focus on operational efficiency. When revenue growth declines or steadies or is negative then you want to maintain your margins by focusing on costs and operational efficiencies.”

There is no doubt that markets in the Middle East are maturing and have also become more competitive. Until as recently as 2007, the UAE and Qatar markets were monopolies. Yet as other players entered market, companies have become more competitive and that makes it more difficult for operators as penetration rates have increased. Now, it’s more about persuading people to switch to another provider as competition reduces prices.

Growth in the industry is being driven by mobile and specifically in mobile data.

“One of the factors that is helping is cheaper data packages and people using smart phones,” says Irfan Ellam, head of MENA Equity Research at Emirates NBD.

“A combination of cheaper data packages, cheaper smart phones should continue to drive data traffic growth,” Ellam adds. “The voice element both for fixed line and mobile is pretty much becoming a commodity product. We’ve seen introductions of newer and better packages for consumers. In a lot of countries, especially in developed markets, with high penetration, it’s also about retaining customers, not just gaining new customers. In most emerging markets, with a growing pie there is enough market share and new subscribers for most operators to grow their subscriber base.”

By the end of 2011, the total number of fixed-line subscriptions of 20 examined operators in fifteen Arab countries reached 26.441 million, according to Arab Advisors Group. Telecom Egypt had the largest fixed-line subscriptions base among the selected operators, followed by STC and Syrian Telecom. The UAE recorded the highest fixed-line penetration rate by end-2011, followed by Syria.

In contrast, mobile subscriptions in the Middle East are expected to reach more than 250 million this year, as mobile penetration exceeds 100 percent, according to Informa Telecoms & Media. With subscriptions forecast to reach 271.27 million at the end of this year and expected to rise to 352 million at end-2016, the mobile penetration rate is projected to increase from 97.72 percent at end-2011 to 107.09 percent at the end of 2012.

“As voice becomes more of a commodity, operators in the region are increasingly focusing on enhancing their non-voice offerings and stimulating data usage,” says Sandila of IDC. “Data services will remain a priority and the operators will differentiate their services from each other by introducing competitive pricing and better quality of services.”

The introduction of new players to markets and the end of monopolies has been beneficial for consumers. With increased competition, product ranges have improved, prices have come down and companies have been forced to become more innovative as they vie for a larger share of the market.

And now, as companies rethink their strategies and business models, and once again consider entering new markets or build on their existing presence, it's natural to then ask whether the next big trend in the industry will include mergers, acquisitions and the consolidation of big and smaller players.

“There’s a tradeoff between providing value-for-money services to consumers and returns for shareholders. You’ve got to get the balance right,” says Ellam of Emirates NBD. “If the competition is too tough, then there is a disincentive for telcos to invest in the infrastructure.”

“Although there is a limited opportunity for internal market consolidation, operators could look into developing new capabilities, cost optimisation and geographical diversification by acquiring companies that complement their core telecom services,” says Sandila of IDC.

With limited scope in terms of acquisitions within the sector in the region, now “the idea is how to consolidate whatever you have and optimise what the companies are good at, while looking for opportunities more in frontier markets where they can grow and sustain growth,” says Haissam Arabi, CEO at Gulfmena Investments.

Looking forward, with few existing green opportunities left, Africa appears attractive. Sub-Saharan Africa remains a major growth market and is the last frontier, with a vast amount of untapped potential, analysts say.

“There are huge opportunities in Africa,” says Matthew Reed, a senior analyst at Informa Telecoms and Media. “In the last few years there has been substantial economic growth in Africa and that is creating huge opportunities with massive changes under way. There is an increasing middle class, urbanisation, and infrastructure — though not entirely in place — provides an opportunity.”

In its World Economic Outlook report in April, the International Monetary Fund said sub-Saharan Africa has been “surprisingly resilient to the European slowdown, reflecting an ongoing redirection of its economic linkages toward Asia.” The region, whose growth has been helped by favourable commodity prices saw its economies grow by about 5 percent last year and is forecast to expand by 5.4 percent this year, according to the Washington-based organisation. That even outpaces growth in the Middle East and North Africa region.

“It is where the Arab world was 10 years ago,” Abbassi says.

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