Pyramid Points - Airtel Rethinks Its African Approach

It has been three years since Bharti Airtel, one of world’s top telecommunications companies by subscribers, began operating in Africa following its acquisition of Zain’s assets in a deal worth US$10.7bn.

In the beginning, the plan was to approach the African market with the same strategy that had made the company a huge success in India — namely the “minute-factory” model, which is based on expectations of high demand elasticity for voice use. Since then, it has been a rough ride for Airtel in Africa. It is still waiting for its business to turn profitable after massive investments since its entry into the continent.

Not all assumptions are created equal

Airtel’s primary assumption appears to have been that aggressive reductions in tariffs could be offset by the total revenue generated by an almost unbounded growth in use (elasticity). Moreover, by outsourcing its network management and IT backbone and consolidating operations where feasible, it could expand its margins. However, this has been a much slower process than expected, and the company looks set to miss its target of $5bn in revenue and $2bn in EBITDA by the end of next month.

Why does Airtel find itself in this situation? First of all, the company discovered that dramatically reducing tariffs does not increase usage per SIM card, but rather adds new subscriptions to the network. This implies a much lower ceiling for potential saturation because the unfavorable degree of urbanization in Africa means that new subscriptions are more costly to acquire than the previous ones. Second, in addition to these counterintuitive marginal cost dynamics, operational expenditures are no cheaper because of the lack of a skilled local workforce, expensive maintenance of base stations due to volatile power availability, and additional security requirements. Furthermore, although African markets lend themselves to economies of scale across some common operations, juggling the regulatory necessities, economic and political conditions, and the market realities of 17 countries has been more than trivial.

Because the African market has been a lot less responsive to the minute-factory concept, Airtel has had to settle for keeping its head above water for now. It has tried to balance the steady decline of ARPU in its African operations (which Airtel says it is partly responsible for due to its central role in the price wars in multiple markets) with an impressive 20% CAGR in its subscriber base since the end of 2010. Although the EBITDA margin has not improved drastically over the last year, opex per minute fell from $0.044 to $0.036, and the opex per BTS ratio fell from $210,000 annually to $195,000. Airtel aggressively outsourced its network management and IT operations and has reduced its nominal capex by over 54% compared to 2011. In other words, it responded to declines in ARPU by improving its efficiencies. The question is: How much longer can it continue to survive this whirlpool without drowning?

Exhibit: Reduced capital expenditure and its total revenue percentage, Airtel Africa

Facing a critical juncture

There appear to be two paths in front of Airtel:

We believe that the former approach is vulnerable to what we view as premature saturation in some sub-Saharan markets: While the actual user bases are much smaller than what subscription rates imply in many markets due to multi-SIM ownership, reaching new customers is increasingly a consequence of costly network expansions into areas of low density and limited infrastructure. The latter tactic, on the other hand, involves focusing on building upon non-voice revenue that has grown 65% in the past two years, but is still only 13% of total revenue.

Data services, while starting from a lower base, are the next area of revenue growth for Airtel, and the company is positioning itself to take advantage of this change. In the category of simple low-margin data services, such as mobile money and VAS, the operator is trying to catch up with its competitors. In the case of more advanced networks, it currently boasts 5,527 3G sites, 34% of its total in Africa, and aggressively markets 3.75G capabilities in multiple countries. Still, the presence of 3G networks and the availability of data services do not automatically translate into adoption or higher margin subscriptions: Quality of service, availability of affordable-yet-exclusive data-centric devices, and a consistently positive brand image will be essential to turning these operations into revenue. Currently, Airtel is closely associated with low-cost services and freebies, whereas data services users will be image-conscious early adopters that desire to be associated with premium brands. Early efforts to address this issue, especially with youth programs, are certainly visible, but they will not pay off overnight.

It appears that Airtel has come to terms with the brutal challenges of sub-Saharan African markets and is moving in the right direction. What remains to be seen, however, is whether it will be able to keep its head above water long enough to complete a shift in identity and diversify its revenue streams.

Airtel to See Instant Growth in Profit Margin as Initial Investment Period Ends
Africa & Middle East Telecom Insider published December 2011
In this Telecom Insider, we look at Airtel’s first year in Africa from three different angles: market performance, operational efficiency and capital investments. We see that the operator spent its first year making losses but has been continuously improving and preparing for future profitability. Also, with selective 3G investments, Airtel is attempting to transform into an operator beyond just a minute factory for voice services. The operator may not have a silver bullet to dominate the African markets, but it certainly has the boldness to act as if it has always been there, and it carries a sense of urgency to take corrective action.

Pyramid Research Mobile Operator KPI Forecast
Forecast published quarterly
The Mobile Operator KPI Forecast measures key performance indicators for up to six operators per country, and breaks down key mobile demand metrics at the operator level. It is available for 84 markets worldwide at the country level. When combined with the standard Mobile Demand or enhanced Mobile Data Forecast, they provide the most comprehensive demand, growth and market share tracking available in the industry today.