Indian government is finally moving towards privatising the telecommunications system, a contentious issue that has frustrated operators for two years and foreign investors for much longer. Nonetheless, the government is still unwilling to hand over complete control to foreigners, insisting that management control of all operators remain with the Indian partner, despite allowing foreign investment up to 74 per cent.

"The FDI limit will be 49 per cent, but foreign institutional investment (FII) will not be a part of this limit. So the total foreign investment cap will be 74 per cent," Communications and IT Minister Arun Shourie said at a ministerial meeting, chaired by Finance Minister Jaswant Singh, recently. This means that the domestic partner in a telecom company can hold management control with a mere 26 per cent. However, that does not necessarily mean the foreign investors won’t hold beneficial or operational control, analysts believe. Management control in this instance is interpreted to mean higher board representation, which doesn’t always result in operational control.

"Normally when such (foreign investment) agreements are spelt out, there are some fundamental control factors or check mechanisms that are implemented," says Kobita Desai, telecom analyst for Gartner India Research Advisory Services. "So, while directly they may not get management control, the conditions within the agreement and check mechanisms ensure that a foreign investor has sufficient control on operations and finance."

Although foreign ownership is capped at 49 per cent, beneficial ownership depends on the number of tiers of holding companies, which can go above 90 per cent. Such beneficial foreign ownership does not trigger a breach in the 49 per cent FDI sectoral cap since the equity routed through these holding companies is structured as Indian investment vehicles where the 51 share-holding pattern is maintained at every layer. The two foreign investors that ensure operational control in their venture this way are Singapore Telecom, which has invested more than US $400 million in India’s largest cellular operator Bharti Cellular, and Hutchison Whampoa of Hong Kong, which has invested through its Indian subsidiary Hutchison India, which now controls the next largest cellular network in the country.

The committee also recommended that mergers among
phone operators be allowed provided the number of
operators in each region within which players are allowed to operate does not fall below three. Debate over whether 74 per cent FDI should be allowed in companies running telephone networks started around early 2001 when the country’s security agencies warned that allowing foreign investors to hold a majority of shares in Indian telecom companies could lead to foreign control over communications - a situation that throws up the threat of espionage and sabotage.

According to the Confederation of Indian Industry (CII), this recommendation comes after the communications ministry and privately-owned telecom operators convinced the Home Ministry, which is in charge of the country’s security, that increasing the cap on FDI in telecoms to 74 per cent would not compromise the security shield.

Undoubtedly, the recommendation has come as a relief for the industry, particularly the privately-owned telecom companies, which include foreign operators like Hutchison Whampoa, Singapore Telecom and AT&T, who, along with their Indian partners, have been waiting anxiously for this relaxation for years. "Now," say analysts, "these telecom operators would be able to raise funds in the international markets through the equity route. Some of the non-serious players would also be able to exit easily." Industry observers say that Bharti Cellular and Hutchison India may benefit the most because of their ability to grow mainly through mergers and acquisitions, and by raising funds from FIIs. Bharti already operates in 15 government-designated regions of operations (called telecom circles) and has more than 4 million subscribers, while Hutch operates in 10 circles with more than 3 million subscribers.

The biggest beneficiary will be those that haven’t come in yet. According to ISI Emerging Markets, a Euromoney Institutional Investor company, India has the third largest telecommunications network among the emerging economies and is among the world’s top 10 networks but telephone penetration, in both basic and cellular services, is among of the lowest in the Asian region. "India has hardly been able to make the level of investments it needs to reach the tele density it set out in its latest telecom policy (crafted in 1999)," says Vivek Mehra, executive director of PricewaterhouseCoopers. "More FDI in such a scenario is, therefore, imperative given the lack of domestic sources for such huge investments," says Mehra, adding, "the telecom industry is facing tough times and foreign investors will invest large amounts in India only if they have a majority stake."

Moreover, ISI Emerging Markets says, "sweeping reforms over the last decade have facilitated the entry of private investment, both domestic and foreign, in India’s telecom industry and rapid growth in demand combined with increasing liberalisation would provide great rewards to players in India."

Yet, the recommendations have failed to silence the sceptics. "While this is good news," says telecoms industry analyst G Rambabu, "even many in the industry who have long been seeking a hike in the limit agree that such a step may not open the floodgates. After all, this recommendation, even if adopted without a whimper, is not a sufficient condition for growth of the telecom sector, which continues to be bogged down by other regulatory and policy uncertainties."