Thursday, April 24, 2008

New Merger Norms for Telcos

The Indian telecommunications industry has witnessed significant consolidation over the last few years, with several large scale investments and mergers having occurred in this space. The Department of Telecommunications (DOT) has now issued Guidelines for intra-circle merger of licencees, which seek to strengthen DOT’s control and oversight of such mergers. While these guidelines incorporate several specific rules regarding intra-circle telco mergers, there continue to be several ambiguities in the guidelines (that may require further clarification from the DOT) and may constrain M&A transactions in the telecom space.

Following are some of the key features of the guidelines, with a discussion on areas that require clarification:

1. Prior approval of DOT

All mergers of intra-circle licencees require the prior approval of the DOT. This is consistent with the overarching control and regulation that DOT exercises over the telecom industry. However, the guidelines are unclear as the principles on which DOT ought to exercise its discretion to approve or reject a merger. In that sense, it appears to confer wide discretion to DOT, thereby possibly leaving parties to a potential merger with uncertainty as to the stance that DOT may take or as to the requirements that DOT would look for while considering such a merger.

Further, as this report in the Economic Times notes, seeking prior approval of the DOT becomes a sensitive issue in the case of mergers involving public listed companies. Such companies owe obligations under disclosure norms whereby they are required to make available material information (such as a potential merger) to shareholders through the stock exchange. Hence, companies would be required to carefully strategise their chronology of events in a merger transaction such that they are able to obtain the approval of the DOT (which would involve sharing of information regarding the merger with the regulator), but at the same time ensuring compliance with reporting requirements under disclosure and corporate governance norms.

2. Level of Dominance

The market share of the merged entity in the relevant market shall not be greater than 40% either in terms of subscriber base separately for wireless as well as wireline subscriber base or in terms of adjusted gross revenue. This is to prevent a monopolistic situation. While this is a notable cause in terms of prevention of competitive practices, the stipulation in these Guidelines and the power conferred on the DOT to grant approval is in addition to regulations relating to competition as set out in the Competition Act and the powers of the Competition Commission (once established). This would potentially create a conflict of authority over competition matters, and would also result in merger participants having to comply with dual anti-competition norms that would make the merger process extremely cumbersome.

Another condition that the Guidelines stipulate is that a merger will not be allowed if it results in the number of relevant service provider in the area being reduced to below four. This again is a competition regulation matter and would create some amount of duality in regulation.

3. Lock-in Period

Permission for mergers can be granted only after completion of 3 years from the effective date of the licences. As the clause stands, it is expected that not only should all the companies involved in the merger have been in operation for 3 years, but the very licences that are the subject matter of the merger should have been in effect for 3 years. Hence, if any of the companies has not been in operation for 3 years, or if the relevant licence has not been in effect for 3 years, then the merger will not be permitted by the DOT. Press reports indicate the Cellular Operators’ Association of India is seeking to clarify some of these issues.

4. Other Conditions

There are several other conditions, including that merger of licences shall be restricted to the same service area, that the entities shall comply with specific spectrum allocation requirement and that the duration of the licence of the merged entity in the respective area will be equal to the remaining duration of the licence of the merging entities whichever is less on the date of merger. As regards acquisitions of shares by one entity holding a licence to an area of shares of another entity licensed in the same area, the existing guidelines shall continue. This means that a licencee cannot acquire more than 10% shares in another licencee entity in the same area.

While these guidelines do lay down specific conditions for intra-circle mergers of telcos, the conditions appear to be onerous and that may tend to make such mergers more complicated than they presently are.

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