Risky Business
By Malathy Devendra, Mon Jun 04 00:00:00 GMT 2001

Operators pay the piper for 3G - with a little help from their friends (and customers).

In Europe, the network operators that walked away with UMTS licenses did so with a light pocketbook. They paid for the possibility of turning 3G into big revenue - but that possibility is quite a bit less tangible than, say, a fleet of Boeing 747s.

The winning bids for UMTS licenses in Europe put more than EUR100 billion into the state coffers. The governments were obviously quite pleased with the sudden financial blessing, but this wasn't a joy that the six mobile operators could share. They are now suffering from the distorted competition that has arisen through the unprecedented high sums that have had to be paid. They have the coveted UMTS licenses, but hardly the financial resources needed to develop the fledgling technologies powering the new services. Basically, they're bankrupt.

The auctioning of the UMTS and 3G licenses around the world generated huge bids. But the trend has changed now - cravings for 3G licenses have subsided, and the lost interest results from uncertainty over payback period, return and profitability.

Last week, when the French government awarded 2 out of the 4 licenses to France Telecom and SFR, the local industry regulator urged the price for the two remaining licenses to be effectively reduced by stretching out the hefty payments over 15 to 20 years. In Hong Kong, the government is equally cautious not to stress the local mobile operators excessively. By using an approach known as royalty-based system, telecom operators will pay a percentage of their future annual revenues instead of 'payment on delivery' method witnessed elsewhere.

Governments are slowing grasping the implication of auctioning on the industry as a whole. The heyday when they could cash in handsome sum of money by tossing around limited edition 3G licenses is over. Even the EU is scratching its collective head, troubled over the fragmented 3G markets in Europe.

"Next time we need to make the rules clear for all. We must not allow this kind of market fragmentation in the future," says Erkki Liikanen, European Commissioner for Information Technology and Telecoms.

These corrective measures are good news for those wireless operators that were not proactively bidding in the first round of the auction. Operators such as Orange SA, Hutchison and Mobilcom still need money to set up the infrastructure.

"If the UK and German governments have got money, it's not in our (EU's) pockets, it's in their pockets. What the governments could do, is invest the money for the development of new technology," Liikanen comments. But at the moment, the governments are nowhere close to helping these debt heavy companies in setting up their networks.

So enter the network providers. The new solution is informally called a bridge-financing package or vendor financing, which offers short-term financing so that operators can get their networks up and running. This move - shifting risk from one sector of the industry to another - has generated a negative reaction from some analysts. But is it possible to eliminate the risk entirely?

After careful deliberation, Nokia has, in very special cases, shifted some of the financial risk onto itself - by financing its own customers. This was the solution offered in deals with Orange and Hutchison in April. Orange received a package worth over EUR 2 billion, and Hutchison got close to GBP 460 million.

Wait a minute - providers are loaning money to operators to buy the network they're selling? Well, yes. And though some markets and investors have reacted nervously to this arrangement, vendor financing is nothing new. However, the difference this time is that the general economic climate is unfavorable and the return on 3G investment isn?t certain - challenged by its predecessor, 2.5G and successor, 4G.

But recently, it appears that international analysts and investors are coming to the same conclusion that Nokia's own analysts did: The new network orders are a significant strategic victory for the company regardless of operator financing, and the risks for Nokia as a leader in the industry are minimal.

"Nokia is not running excessive risks to finance projects for the benefit of the whole third-generation mobile telephony industry," said Jussi Hyoety, an analyst at FIM Securities in Helsinki, to AFX. "On the contrary, Nokia is judging each possible order on its own merits to make sure it is a sound, money-making transaction."

Alcatel, Ericsson and Nokia all have their own market-locking agenda - not to forget Siemens and Nortel. If some of these players can afford to finance their customers to reach their goals, then consider it as a tactic - just like those used in the past - to win market share. Moreover, as banks are reluctant to consume such risks, it seems the infrastructure companies seem to know what they're doing - better understand the technological risk?

Analysts agree that problems only arise when vendors finance companies that have a bad financial position, or when the financier itself isn't on solid footing. The companies that Nokia has chosen to finance are exceptionally sound. France Telecom, for example, is a very safe borrower because its major stakeholder is the French government itself.

And as for Nokia's solid footing, there is no dispute.

"I think they are the best positioned in terms of finance," ArosMaizels analyst Mika Paloranta told Bloomberg. "They are the strongest player around and they can afford to finance operators if they choose to do so. If somebody can afford to finance their customers, it's Nokia."

So, back in Nokia Networks headquarters in Dusseldorf, the competition for operator contracts is reaching its climax. Nokia has already netted two significant deals: T-Mobil and Mobilcom Multimedia. You won't find people there sweating over financing arrangements.

It's true that at the moment the network infrastructure suppliers have a great responsibility to bear - both for their own companies as well as for the customers, the network operators. On the one hand, all the network operators want to set up state-of-the-art networks as soon as possible. But each order still involves a risk, now for both the supplier and the operator. This means that network operators and network infrastructure suppliers will have to work together in even closer partnerships to achieve mutual success.

But technology does not produce cash flows, businesses do. "We need to invest in services. People don't buy technology, they buy services," Liikanen further adds. France Telecom persuaded Nokia, Ericsson and Siemens to lend a financial hand (EUR 3.5 billion) to support its business strategy. But what is its business model?

The key to successfully rollout 3G networks is attractive services. But what is the simple yet value-adding content that we keep on hearing? Perhaps the governments could spend the surplus they possibly have on developing 3G services. This will help our collective 3G future look a bit brighter by hopefully reducing the cynicism towards the next-generation networks.

High-tech industries are marked by their fast pace and changing outlooks - undisputedly a risky business. For the moment - at least in some cases - this means that financing packages are the best way to adapt to the major changes brought on by the huge financial demands of 3G licenses.

As business editor of TheFeature.com, Malathy Devendra writes about business issues that are scorching in the wireless space.