Mobile expansion driving growth for South Africa's telecoms operators

Despite facing fierce competition and slowing revenues in 2014, South Africa’s telecoms operators are well placed to see growth in the near to medium term. The mobile market is approaching saturation and a shift from traditional voice and SMS services to data is expected to drive future growth, particularly in 4G long-term evolution (LTE) services, which are slated to expand well beyond upscale suburbs in the next several years. Although operators face a competitive and crowded market, a lack of available spectrum, and a new mobile termination rate (MTR) regime that has cut into revenues, the sector’s surging data demands, strong equipment sales, increasingly popular value-added data bundles and a pair of planned acquisitions should see operators maintain profitability and expand their customer bases in 2016.

Market Structure

In May 2014 the government divided responsibilities for its broadcast, postal and telecommunications services among two bodies: the Department of Communications (DoC) and the Department of Telecoms and Postal Services. The DoC is responsible for much of the country’s telecommunications sector and oversees a number of entities, including the South Africa Broadcasting Corporation, Brand South Africa, the Media Development and Diversity Agency, the Film and Publication Board, and the Independent Communications Authority of South Africa (ICASA), South Africa’s telecoms watchdog.

ICASA was established in July 2000 following a merger of the former regulator, the South Africa Telecommunications Regulatory Authority and the Independent Broadcasting Authority. The authority is responsible for regulating the telecommunications, broadcasting and postal industries, and acts to advance South Africa’s universal service and access policy, which mandates nationwide access to basic telecommunications services at affordable prices. ICASA also issues licences and allocates radio frequency spectrum to telecommunications and broadcasting service providers, works to enforce compliance with government policy and legislation, and acts as a consumer protection agency.

Fixed-Line Telephony

South Africa’s incumbent operator, Telkom, held a monopoly on fixed-line services during the apartheid years. It remained stateowned until 1997, when the government sold a 30% stake to Telekom Malaysia and American firm SBC Communications. Today the company is 50.37% stateowned and competes with Neotel, which became licensed to operate in the fixed-line segment in 2006. Neotel is 67% owned by India’s Tata Group, though Vodacom was in the final stages of acquiring the whole company as of July 2015.

As in other emerging economies, South Africa’s fixed-line market is lagging. Telkom reports that its fixed-line voice and interconnection revenues declined by 11.9%, to R8.3bn ($717.1m) during the financial year ending March 31, 2015, while fixed voice revenues fell 13.5% and leased-line revenues fell 22%. The company nonetheless recorded a profitable 2014/15, announcing 1.2% year-on-year (y-o-y) growth in operating revenues, which rose from R31.29bn ($2.7bn) to R31.68bn ($2.74bn). This increase was driven by a 4.5% increase in data revenues within its mobile arm, as well as a 23.7% increase in equipment sales, which offset a 4% decline in voice and subscriptions. The company’s profit after tax reached R2.9bn ($250.5m), although this was a sharp decline from the previous year’s R3.6bn ($311m).

Mobile Operators

South Africa’s mobile market has high rates of penetration, according to 2015 statistics published by South Africa-based ICT consultancy World Wide Worx, which found that there were 80.2m sim cards in circulation and 42m mobile users in the country as of September 2014, a figure that amounts to 77.8% of the population. The country’s mobile market is dominated by five major GSM operators: Vodacom, a subsidiary of UK-based Vodafone; MTN South Africa, an arm of the publicly-listed South African company MTN Group; Telkom’s mobile subsidiary Telkom Mobile, Cell C; and Virgin Mobile.

According to an April 2015 report in Business Tech, Vodacom is the largest player by market share, with 31.4m subscriptions, or 38.4% of South Africa’s estimated 81.7m. MTN SA is second, with 28m subscriptions, or 34.3% of the total, followed by Cell C, with 20m subscriptions; Telkom with 1.8m; and Virgin with 500,000. Telkom has since reported, however, that its mobile uptake rose 21.2% to hit 2.19m subsriptions as of June 2015. MTN Group was established in 1994 and is active in 21 markets across Africa and the Middle East, while Cell C was founded in November 2001 as a subsidiary of 3C Telecommunications, of which Oger Telecom South Africa owns 60%, CellSAF holds 25% and Lanun Securities SA has 15%.

Vodacom was originally formed as a joint venture between Vodafone and Telkom, although the latter sold its 50% share in the company in 2008 – 15% to Vodafone and 35% to shareholders on the Johannesburg Stock Exchange – in order to reinvest in its own mobile unit. Vodacom is active in a number of African markets, including Tanzania, the Democratic Republic of Congo, Mozambique and Lesotho.

Vodacom

Despite facing a challenging operating environment in 2014/15, with revenues and profits hit by ICASA’s MTR cuts, Vodacom’s fiscal year ending in March 2015 saw modest overall revenue growth and strong data uptake. According to the company’s annual report, total revenues grew by 0.4% to hit R62.04bn ($5.36bn), while revenue growth in the fourth quarter of 2014 reached 4.7% as a result of strong data and equipment revenues.

“Massive uptake of smart devices and the low-cost smart phones are a key driver of data demand,” Richard Boorman, Vodacom’s executive head of corporate communications, told OBG. “Data traffic in the townships doubled y-o-y in 2014, whereas nationwide it grew 46% during the same period. One of the big growth areas is the emerging segment, supported by the low-cost smart phone segment and we obviously still see a lot of room for growth.”

Rising Data Demand

Although Vodacom’s service revenues declined by 2.7% to hit R47bn ($4.06bn) in 2014/15, largely as a result of MTR cuts, Vodacom reported 1.5% service revenue growth if the impact of the MTR cuts was excluded, with data now rising to become the company’s biggest earner. Indeed, Vodacom saw 23.4% data revenue growth to reach R15.54bn ($1.34bn) in 2014/15, supported by affordable devices, increased bundles sold and greater coverage. Data monetisation and efficiency improved and Vodacom recorded 31% data revenue growth and 47.5% data traffic growth in the fourth quarter of 2014. Data now comprises 28.8% of Vodacom revenues in South Africa, while active data customers rose 9.4% to reach 16.6m in the 2014/15 financial year. The average amount of data used per month simultaneously rose by 37.9% to 342 MB on smartphones and by 12.3% to 829 MB on tablets.

MTN SA

Like Vodacom, MTN SA is witnessing dramatic data demand, reporting that its fourth-quarter mobile data revenues rose 42.3% over third-quarter figures as a result of increased 3G coverage, improved smartphone adoption and tailored data bundles. As of the end of 2014 data revenues comprised 23.8% of MTN SA’s total revenues, up from 21.2% in 2013, while the number of smartphones on its network rose by 17.8% to reach 5.9m and the number of data users increased by 20.1%, to 17.1m.

Data-driven growth continued in 2015, with the company reporting in a first-quarter 2015 update that, although total subscribers declined by a marginal 35,000 users and total voice minutes declined by 6.1% quarter-on-quarter, data usage rose by 62.6% y-o-y, data users rose by 18.1% y-o-y to reach 17.2m and data revenues rose by 21.8% y-o-y, with data now accounting for 27.7% of total revenues.

Value-Added Bundles

Growth is also being driven by value-added bundles offering low-income segments cheaper access to voice and data services. Vodacom’s launch of “bite-sized” data bundles (for example 50 MB of data usage for R3 [$0.26] and 100 MB for R10 [$0.86]) is also driving data adoption and Vodacom reports pre-paid bundle sales rose 139.2% y-o-y. MTN SA for its part, reported that its data growth was supported by “attractive data promotions,” including data bundles, with data revenues rising by 17% during the fourth quarter of 2014.

Despite recent promising results for data services and value-added bundles, MTN SA continues to struggle in the fiercely competitive South African market. According to the group’s annual report, MTN SA’s total revenues fell by 3.9% in 2014 to reach R38.92bn ($3.36bn), which the company attributed to price competition, lower MTR revenues and the rand’s 12.6% depreciation against the US dollar.

Earnings before interest, taxation, depreciation and amortisation and goodwill impairment fell by 11.1% in 2014 to stand at R12.51bn ($1.08bn), while capital expenditure also fell by 2.7% to reach R5.68bn ($491m), from R5.84bn ($504m) in 2013.

MTR Rate Cut

One the most significant recent regulatory development in South Africa’s telecommunications sector was ICASA’s 2014 decision to cut MTRs by 50% – a move that had a significant impact on operations at the country’s two largest mobile operators, Vodacom and MTN SA.

In January 2014 ICASA announced plans to introduce aggressive asymmetry in wholesale call termination rates, meaning the charge subscribers pay when ending a call on a network other than their own. Originally planned to take effect in March 2014, the new rules slashed MTRs for Vodacom and MTN by 50%, from R40 ($3.46) to R20 ($1.73). The regulations favoured South Africa’s smaller operators, Cell C and Telkom, and were initially praised by both companies.

Court Challenge

Vodacom and MTN SA contested the decision, however, eventually taking their concerns to court. ICASA later delayed implementation of the new MTR regime until April 2014, after the South Gauteng High Court ruled that the decision would come into effect that month, but would only remain in place for six months pending a rate review.

In September 2014 ICASA unveiled its final planned MTR rate cuts, effective from October 2014 to February 2018. Mobile call MTR rates remained at R20 ($0.02) per minute until March 2015, while fixed termination rates (FTR) dropped to R0.12 ($0.01) per minute for calls in the same area and R0.19 ($1.64) for long-distance calls. MTRs and FTRs are both set at R0.16 ($0.014) between March 2015 and March 2016, following which both will drop to R0.12 ($0.01) and again to R0.08 ($0.007) in March 2017. ICASA also introduced a new method to determine asymmetry qualifications, announcing the company must have less than a 20% share of total terminated minutes in either the fixed or mobile markets to qualify (down from the previous limit of 25%.) New regulations also reduce asymmetry for Cell C and Telkom, setting rates at R0.30 ($0.023) between October 2014 and March 2015 – a 50% decrease from original plan – before falling to R0.22 ($0.019) in March 2015, and R0.16 ($0.014) and R0.10 ($0.009) in 2016 and 2017, respectively.

Mergers & Acquisitions

Outside of MTR cuts, intense competition in a crowded market stands as the biggest challenge to mobile operator profitability. However, a host of planned mergers and acquisitions could soon offer some relief to the sector.

In May 2014, for example, Telkom proposed a buyout of the Johannesburg-listed BCX, an IT outsourcing provider, marking the second time in seven years it had attempted to purchase the company. Though its previous bid had been rejected by the South Africa Competition Commission (CompCom), authorities announced in May 2015 that the R2.7bn ($233m) deal had received conditional approval, with full approval requiring that the company adhere to a number of guidelines, including setting the price for wholesale leased lines on the number of actual lines utilised; setting prices for other services based on the actual costs incurred; ensuring prices for bundled offering using wholesale leased lines are at levels less than the sum of the costs of components in the bundle; and clearly indicating the price of individual services in any wholesale leased line bundle.

Vodacom-Neotel

Vodacom is also in the midst of a major acquisition, after announcing plans to buy South Africa’s second fixed-line operator, Neotel, for R7bn ($605m) in May 2014. Neotel’s network, which includes 15,000 km of fibre-optic cable, 8000 km of which is located in metro Johannesburg, stands as an important complementary offering to Vodacom’s cellular business, and will further support the company’s drive to expand fibre coverage and 4G LTE deployment nationwide (see IT overview).

In July 2015 CompCom announced it had granted conditional approval for the acquisition, provided Vodacom does not use Neotel’s spectrum for wholesale or retail services for two years from either the approval date or December 31, 2017 (whichever is earlier); that Vodacom commit to R10bn ($864m) in fixed network, data and connectivity infrastructure investment; and that the company ensure the value of shares held by Black Economic Empowerment (BEE) shareholders increase by R1.4bn ($121m), which represents the current value of BEE stake in Neotel.

Outlook

MTN and Vodafone’s move to increase consumer tariffs in mid-2015 will help mitigate the challenges of MTR cuts this year and next. Surging demand for data, meanwhile, is expected to keep the industry profitable into 2016, despite the challenges in establishing new 4G LTE services, which are expected to eventually become major growth drivers.

Although market competition remains a significant challenge, recent moves to buy out illiquid companies with sizeable infrastructure networks could indicate the beginning of a period of consolidation in the industry. This could benefit long-term profitability and boost operators’ abilities to improve service offerings and capture more market share, lending an optimistic outlook to the country’s telecommunications sector.