The big three: A battle for subscribers and profit

While there are a host of telecommunications providers serving various niches in Indonesia, three companies stand out as the biggest and most closely watched: Telkomsel, Indosat and XL Axiata. These are the three dominant GSM providers and it is their competition that sets the overall tone for the sector. Each have reported drops in some key indicators over the past year, such as average revenue per user (ARPU), net income, operating expenses and others. Meanwhile, competition and the constant cash drain required to build and maintain networks have dramatically reduced profit margins. Each of the companies primarily service prepaid customers on second-generation networks. They are building data-friendly third-generation (3G) networks, but as of 2011 service remains limited to Jakarta and a few other cities, and is too costly for nearly all customers.

TELKOMSEL: Telkomsel is the wireless division of Telkom, the legacy telecommunications monopoly in Indonesia. It has a commanding 60% market share of GSM users thanks to its status as an arm of Telkom. However, portfolio investors tend to be wary of the company because this dominant market share is seen as unsustainable. Telkomsel began service in 1995 and today its network reaches 90% of the population. Moreover, it is the only operator to cover each province and city. Given the difficult geography of the country, spread across thousands of islands, “comprehensive network” is a relative term.

At the time of its establishment, Telkom owned a 77.7% stake in Telkomsel. KPN Media, a unit of Dutch telecom giant KPN, had 17.3%, and Setdco Group, a Jakarta-based firm, owned the remaining 5%. In 2001 the government sold 22.3% to Singapore’s SingTel, increasing SingTel’s stake to 35% and leaving Telkom with 65%. In 2003 SingTel bought KPN’s stake for $602m. SingTel also invested heavily in Telkomsel’s rival Indosat, but sold that stake after the Indonesian government forced the company to choose an ownership stake in only one of them. Telkom has announced a plan to buy back SingTel’s stake in Telkomsel and in September 2011 said it had hired Bahana Securities, a leading Indonesian investment firm, to advise on the purchase. Furthermore, they also plan to hire two advisory firms from foreign markets to assist. Telkom previously offered to swap its own shares for SingTel’s Telkomsel shares, but SingTel did not agree to the arrangement.

For parent company Telkom, the attraction is that its mobile unit is its biggest revenue generator, and it would like to keep all that for itself. Telkom also operates a code division multiple access (CDMA) service called Flexie, which currently has a much smaller customer base than Telkomsel. In April 2011 Telkom said during a conference call with analysts to discuss its 2010 results that a proposed merger of Flexie with Esia, the CDMA unit of Bakrie Telecom, was on hold. In 2010 the company’s subscriber base grew by 15.1%, to 94.01m from 81.65m in 2009.

But within the telecommunications sector in Indonesia, the quality underlying these numbers is an issue because there are so many frugal customers spending very little. Telkomsel’s growth was driven mainly by these frugal subscribers, who typically buy prepaid airtime. Growth in that segment was 15.4%, up to 91.88m subscribers. The number of post-paid subscribers, the bigger spenders, rose by 4.5%, to 2.13m users. ARPU, perhaps the telecommunications industry’s key indicator, fell to Rp36,000 ($4.32) in the fourth quarter of 2010 for prepaid users, and to Rp206,000 ($24.72) for post-paid. While operating revenues showed an increase of 2.5% in 2010, expenses ballooned by 10.7%. This left Telkomsel with an overall 6.1% drop in net profit for the year, down to Rp12.36trn ($1.48bn).

INDOSAT: The larger of Telkomsel’s two main competitors, Indosat, has a market share of about 21%.

The company began in 1967 as Indonesia’s international telecommunications provider, but has since moved into all areas of telecommunications, with satellite television, cable television, internet and other entertainment subsidiaries to complement its network and mobile services, making it the most varied operator. In 1980 the government bought the company and sold a 40.8% stake to STT Communications, a firm with global interests that is part of the Temasek conglomerate, Singapore’s government-owned investment arm. Temasek in 2008 sold that stake to Qatar Telecom (Qtel) for $1.8bn, making it Qatar’s largest overseas investment in the telecommunications sector. In March 2009 Qtel boosted its stake to 65%, the maximum ownership allowed for a foreign investor according to Indonesian law.

The government retains a 14.29% stake and the rest is owned in publicly traded shares. Qtel took over operations in May 2009 and was expected to revitalise marketing and network efficiencies, as well as target higher-value clients. As of 2011 Indosat was still working to establish itself, but early results show that the company offers the fastest and cheapest data plans, attracting smartphone clients.

CUSTOMER MIX: Indosat’s GSM service had 51.5m subscribers by the third quarter of 2011, indicating an increase of around 7m for the year. Its heavy reliance on prepaid subscribers – 43.2m in 2010, compared with 1.1m post-paid – gave it a lower ARPU than Telkomsel, at Rp34,700 ($4.16), down from Rp37,700 ($4.52) in 2009. ARPU for prepaid customers shrank to Rp31,500 ($3.78), but its small minority of post-paid users grew to Rp234,000 ($28.08). Indosat also has a CDMA unit, which is commonly referred to as “fixed wireless” service in Indonesia. Its CDMA business, branded StarOne, was started in 2004 with a network capacity of 2m subscribers. By the end of 2010, however, this had shrunk to only 555,000. Indonesia’s CDMA market leaders as of mid-2011 were Flexi, Telkom’s CDMA unit with 18.2m subscribers, and Esia, which had 12.8m. According to a research report by Fitch Ratings, those two rivals have made rapid gains in market share and StarOne does not currently appear to be one of Indosat’s top priorities.

Indosat is expected to field offers for 4000 of its network towers as part of a trend now sweeping Indonesia in which operators sell their towers to tower management companies and then lease back space on them (see analysis). Meanwhile, the company has in recent years been adding to its network, both by establishing new coverage areas and upgrading infrastructure in existing areas.

With increases in operating income and earnings before interest, as well as making cost efficiencies, Indosat saw a 87% surge in net profits in 2011. The company made a net profit of Rp992bn ($111.6m) up to the third quarter of 2011, compared with Rp647.2bn ($77.66m) over the same period in 2010.

XL AXIATA: The third of the big three, with a market share of about 19%, XL Axiata began service in 1996. The majority shareholder is Indocel Holding, a subsidiary of Malaysia’s Axiata Group (formerly Telekom Malaysia International), which has an 83.8% stake. The minority shareholder is Etisalat, a telecommunications company based in the UAE, and the public holds the remaining shares. Etisalat bought its $438m stake in 2007 from Telekomindo Primabhakti, a local holding company.

The company grew nine-month profits in 2011 by 5% to Rp2.18trn ($261.6m) from Rp2.08trn ($249.m) in the same period last year. XL Axiata had 43.4m subscribers at the end of 2011, with its user base growing at 13% y-o-y. Blended ARPU from both types of customers was at Rp32,000 ($3.84), a decline of 6%. However, the total minutes of usage rose over 2010 levels by 1% to 59.6bn.

The company has been focusing on developing its network to better support data delivery, which has consumed much of its capital. It considered selling its towers but instead decided to raise cash with a rights issue. The company’s 2011 capital expenditure plan called for around $500m to be spent on improving the capacity of the existing network.

LOOKING AHEAD: According to research from DBS Group, a bank specialising in Asia, XL Axiata is expected to increase market share in the future based on its lower prices. The company’s network management system has to date been able to spread traffic more evenly throughout the day, whereas the other two are more likely to see their more limited networks swamped during prime talking time.

XL Axiata, unlike the other two, has no government stakes in its ownership structure, and this means the company is perceived as able to make faster decisions, particularly regarding capital expenditure.