India Telecom

December 5, 2003
Mobile phone manufacturing in India
Light at the end of the tunnel or an opportunity lost?

Geetanjali Wadhwa & Pradeep Chakraborty

Though mobile phone usage has picked up substantially in the country, few handset vendors have come up with a scheme, so far, to manufacture handsets in the country. Local manufacturers themselves are sitting on a huge opportunity to take on such vendors on home turf and finally make it big. The question is: are we ready as a nation to make handset manufacturing in India viable, or do we stick with 100 percent imports and allow global handset vendors to make a killing?

NEW DELHI -- The Indian mobile phone segment has witnessed tremendous growth over the last six to eight months with the number of mobile phone users escalating from around 8 million to over 20 million [including GSM and WLL (M)]. Interestingly, a host of new mobile handset players have also entered the market, including Taiwan's BenQ and DBTEL, and China's Bird. Even LG, a leading CDMA phone vendor, has entered the GSM segment as well, and Motorola and Nokia -- strong players in the GSM segment, have forayed into the CDMA segment as well. Obviously, all of these players feel that it is the right time to concentrate on the huge Indian mobile phone market, which is next only to China. Not only this, the vendors are vying with each other to push the entry barrier even lower.

Levis Hsu, senior vice president, Asia Pacific sales division, DBTEL, which recently launched a range of mobile phones in India, sums it all up, saying: "We saw a very good opportunity to launch and market our mobile phones in this country. All the other manufacturers are thinking along similar lines."

Lack of finances cripples local manufacturing.

Already, we have some local manufacturers of CDMA handsets. This has helped push down prices for such handsets substantially. For GSM equipment, an Indian PSU has recently entered into a technology transfer agreement with a European company and other companies are in negotiation stages. Telecom operators did not procure GSM terminals until now as sale proceeds from terminals are clubbed with revenue for purpose of license fees.

The change in duty structure in 2003-2004 has spurred foreign manufacturers to either passing on the technology to Indian companies or plan to come to India with large investments. The situation has changed. Demand has picked up sufficiently. The government will likely exclude the revenue on sale of terminals from the definition of revenue for license fees. With these measures, we can have a good manufacturing base if the duty structure on cellular terminals remains as it is today, i.e., 10 percent for the time being. This, in any case, is going to be zero in 2005.

India is aiming for a teledensity of 15 by 2010. It would not surprise the telecom pundits if that goal were achieved before the period, if the current growth in wireless is taken as a yardstick. In fact, some industry sources believe that India can hit this figure by as early as 2007, if the current rate of growth continues. A teledensity of 15 would statistically mean anywhere between 150 million to 200 million telephone users in the country. Given the way the wireless segment has been growing in recent months, the number of mobile phone users could easily account for at least a conservative figure of 50 million by 2010, if not more.

As an example, if we multiply this figure by the price of an entry-level GSM handset, say, Rs. 5,000, we arrive at a figure of Rs 25,000 crores. This will likely be the conservative market size for mobile phone handsets in India over the next five years! It also translates into tremendous opportunities for the leading mobile phone vendors, currently entrenched in the Indian market. Now wait a minute! Shouldn't all these mind boggling numbers indicate tremendous opportunities for local handset manufacturing as well? Or, is there an opportunity lost for Indian telecom equipment manufacturers to finally make it big time and take on the global mobile phone vendors on home turf?

Siemens Mobile is focusing on mobile software development in India.

Hundred percent assembly or imports?
The issue is: Do we need 100 percent assembly of mobile phone handsets or do we 100 percent allow imports of mobile phones in this country? If we are to follow the latter, how can we beat the China Goliath in the first place, let alone compare ourselves with China? For that matter, why has India not yet been able to generate the kind of growth the Chinese telecom manufacturing industry has experienced?

India and China together constitute the largest telecom markets, contributing to about 65 percent of growth, says P. Balaji, secretary general of the Telecom Equipment Manufacturers' Association of India (TEMA). Both Indians and Chinese understand that telecom is an important parameter for growth and development. However, China made a policy decision in the early '90s stipulating that it would allow access to its market only to those that invested within China for local manufacturing. Consequently, China has since emerged as one of the largest equipment suppliers. Due to high manufacturing volume, it also enjoys a price advantage. Telecom services have grown as well.

For its part, India had the New Telecom Policy 1994 (NTP-94) with a direction the telecom equipment manufacturing industry would be encouraged and India would become a regional hub. The NTP-99 reiterated that direction. There also was a provision for incentives to telecom operators for using locally manufactured equipment. The government has yet to implement these provisions.

Now, India has signed the ITA-1, under the World Trade Organization, committing to zero duty on imports on 217 items, including all telecom equipment. In its zeal to implement it faster, India postponed the duties, agreeing to implement them in 2003, only to move them to 2005 last year.

Says N.K. Goyal, president of TEMA: "This has created chaos and uncertainty. It has also discouraged new investments in telecom equipment manufacturing. Simultaneously, telecom equipment was imported at 5 percent duty, without even waiting for WTO agreement to come into force. Next, the margin on import duties on finished equipment and components was reduced from 25 percent to zero percent over the last three years. The incumbent government operator was also corporatised in 2000, and is increasingly facing a resource crunch." For the record, all operators in China are government controlled even today.

Another problem facing Indian manufacturers has been the lack of financing within the country. Goyal says: "Operators depended heavily on imports for cheaper duty and liberal finances, at an interest rate from 2 percent to 4 percent. All of this has had a crippling effect on the industry."

Making handset manufacturing viable
If the Indian mobile market is exploding has anyone come up with a scheme to manufacture handsets so far? Commenting on the viability of handset manufacturing in India, V. Masaldan, hony. secretary, Consumer Electronics and TV Manufacturers' Association (CETMA), said: "The government must decide whether they want handset manufacturing in the country or they prefer imports. There is an inverted duty structure, wherein, the duty on imported components is higher and the duty on finished products lower. There should a consistent policy and not a piecemeal approach."

Adds Goyal: "While it is true that the mobile phone market is exploding, the number of cellular handsets manufacturers (those already manufacturing CDMA handsets in India) are in the advanced stages of negotiations with reputed foreign companies before undertaking the manufacture here. It is pertinent to note that the existing cellular handsets manufacturing lines can be used for GSM handsets as well, with the provision of different instrumentation for testing. A case in point is the understanding needed between Alcatel and ITI for manufacturing GSM equipment that may culminate into manufacturing of GSM handsets within a short period."

Peter Gartenberg, executive vice president, Information and Communication Mobile -- Mobile Phones (ICM-MP), Siemens Ltd., succinctly notes: "Although the Indian mobile market is exploding, handset sales figures have yet to reach a level that would justify the capital investment in mobile handset manufacturing. The thumb rule to set up a new factory is approximately 10 million handsets of a single brand. Initially, Siemens Mobile is focusing on mobile software development in India. India is Siemens Mobile's global center for mobile software development."

He continues: "As the market grows further and achieves the proper scale -- i.e., 10 million handsets per brand, handset manufacturing will become viable. Aside from the scale, India possesses all the necessary conditions for handset manufacturing."

If the current numbers are not justifiable enough to entail manufacturing, what can be done to make handset manufacturing or assembly viable. Goyal comments, "By rationalising the tax structure, the government has created the right climate for the manufacture/assembly of cellular handsets. We would further like the state government to reduce the sales tax on cellular in the concerned states to 4 percent, which is similar to the central sales tax, with no entry tax or octroi duties."

Controlling the gray market
The gray market still comprises a substantial proportion of handset sales in the country. Can anything be done to deal with it? Says Goyal: "At present, the handset market, to a large extent, consists of gray handsets. This also includes the second-hand handsets and refurbished handsets that are imported either legally or illegally. The CDMA phone, which used to be sold at a price of Rs. 15,000 a few years back, has already come down to Rs. 5,000 with the advent of setting manufacturing facilities in the country and stabilisation of the manufacturing process as well as intensive engineering. With the development of indigenous software and reduction of sales tax, it is likely that prices will be further reduced by 30 to 40 percent. If the price of new cellular handsets comes down to below Rs. 3,000, we are sure that the existing large gray market will reduce to a trickle."

According to Gartenberg, the gray market is declining rapidly since the lowering of the customs duty to 15 percent. Indian consumers are willing to pay more for a fully warranted, legal handset. The further lowering of duties and taxes would reduce the gray influx.

Goyal further feels that the market is large enough to absorb both GSM and CDMA technologies, and the competition between CDMA/GSM services will certainly lead to further cost reduction and improvement in quality of services. Gartenberg believes that this really isn't a major issue as GSM is the dominant standard in the world (over 1 billion subscribers) and in India (over 18 million subscribers). "The major growth in the market is in the GSM environment, so we are participating in the highest growth segment", he adds.

Many service operators are clubbing handset sale to subscription to their service. Is this desirable from the consumer point of view? If not, what regulatory measures should be undertaken? According to Goyal, it is not mandatory to purchase handsets from the service operators. The customer can take his own decision in the procurement of handsets, and no further regulatory measures are needed. Though, we are seeing various marketing bundles with handsets today, Gartenberg feels that the retail sales of handsets still accounts for at least 95 percent of handset sales in India. "We have and will continue to work with service operators on bundling schemes, but we are realistic that this will only account for a limited sale," he concludes.

Regarding the roadmap for MNCs and how they can start manufacturing facilities in India, Goyal advises that the MNCs should first start with an appropriately-sized manufacturing units in India for the more popular brands. "The handsets manufactured in these factories should be available to the Indian market as well as exports to other countries," he suggests. In this scenario, most of the components for manufacturing the mobile handsets have yet to be developed in India. "With the present scale of operations, it is possible to manufacture most of the components domestically over the next eight to twelve months. Until then, the duties on the components should be zero in order to keep the handset prices low. Anyway, the duties are going to be abolished from 2005," contends Goyal.

Sincere efforts of TRAI, government
In a letter to Rajender Singh, adviser (Mobile Network), TRAI, TEMA also highlighted a cheaper option of using second-hand/refurbished phones. However, their consumption does not appear to be substantial. "It is to be noted that there is a huge margin and differential gap in between the import price of a trader and the price the consumer finally pays. There is always a gap of about 40 percent or so in this context. Prices are drastically falling in the international market and every known/unknown brand is eyeing the India market because of volumes. Large operators are negotiating prices at substantially lower than market prices. Taking the current average cost of handset at US $100, which is likely to be in the range of US $50-60, the impact of reduction of custom duty by 10 percent to 5 percent will hardly be US $2-3, which is not substantial at all."

TEMA also appreciated the policies adopted by TRAI and government in unification of license and reduction of tariffs, which has resulted in exponential growth in telecom sector. India being a price-sensitive market, the growth of about 2 million per month has been possible only due to domestic reduction in tariffs, which had been made possible due to TRAI's policies and directives of allowing competition in a big way. Among India's current targets is the growth of the mobile phone industry. According to TEMA, there should be no hurdles that restrict the growth and that services to customers does not become costly.

The TRAI has already streamlined the policies and nobody can now stop the growth, while achieving addition of about 2 million phones per month. The industry has not faced any shortage or high cost of mobile handset so far. There has never been a situation that a telephone connection is not available because of the scarcity of handsets. In fact, the reduction in tariff has fuelled growth. Next, the tariff unbundling of handsets with CDMA has been widely acclaimed by customers. To this extent, TEMA supports TRAI's initiatives that the revenue from sale of handsets should be excluded from the definition of revenue for the purpose of licensing fees.

The present duty structure of 10 percent plus zero CVD (countervailing duty) is even less than 15 percent, as committed to the WTO. Incidentally, even in China, the duty on import of handsets is 10 percent plus zero CVD. Growth of mobile phones in China is proof that duty structure has not handicapped growth.

Prices of telecom equipment manufactured in India have never been higher than the international market, as seen in the last several years by public operators. Telecom products manufactured in India have always been at par with the quality of international products. All of our products, including CDMA handsets, have already been approved by Telecom Engineering Centre, DoT.

Rationale for maintaining existing duty structure for 2004-05
Until last year, according to the inverted duty structure, the components and parts attracted higher duties as compared to finished handsets. Therefore, there was no question of manufacturing equipment indigenously, as it was unviable. The duty structure correction was made only in the last budget. Substantial capacities have since been created for manufacturing of handsets in the country, as evident from the table below:

These production capacities are for the first year and can be enhanced manifold quite easily. In the electronics and telecom Industries, the assembly lines are flexible and on receipt of demand, the spare capacity available in telecom sector can be instantly used. The present capacity utilisation in telecom is hardly about 30-40 percent of the total capacities created. Capacities can be further enhanced by operating multi shifts and/or with marginal addition of testing equipment. These facilities can be utilised for manufacturing GSM handsets as well.

As per the WTO agreement, the customs duty on mobile handsets should to be reduced to nil only in 2005 and not earlier. The custom duty, as per the WTO agreement during current year is supposed to be 15 percent, against which we are already at 10 percent. It is essential that indigenous manufacturing be allowed to stabilise and the country should get prepared to face the challenge of the imports. Any reduction in the import duty at this juncture, will throttle the indigenous industry with no ultimate benefit to the users.

The domestically manufactured cdma2000/1x handsets with data capability and data cord are being supplied at less than Rs. 5,000 each to service providers, while the imported handsets costs at least 30-40 percent higher, without the data cord, which costs an additional Rs.1200 each. The quality of indigenous handsets is not deficient in any way as compared to the imported handsets. Earlier, when there was an inverted duty structure and there was no manufacturing capability of CDMA handsets of 5.3V (IS 95) technology, these were sold at over Rs.15,000 each and more. The cdma2000/1x handsets with data capability and data cord are now available below Rs.5,000.

If indigenous manufacturers are given a breathing space of one year, it would result in the following benefits: rapid creation of manufacturing capacity; availability of state-of-the-art handsets; upswing in R&D activities due to economy of scale; availability of genuine spares; Top-class repair facilities; and extremely competitive prices leading to further price reduction.
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TEMA has called upon the government to maintain the status quo as a very short period has been made available to the domestic manufactures to innovate and face the zero duty regime. Its recommendations, it suggests, will not hamper the growth of subscribers in any way, and the availability of quality and quantity of handsets. It has requested the TRAI to advise the ministry of Finance and respective state governments to reduce the sales tax burden on handsets that is as much as 4 percent to 12.5 percent, in addition to the burden of octroi duty/entry tax in various states. Withdrawal of these levies will bring further relief to the subscribers and immensely help in deployment of mobile phones, resulting in the desired increase of tele-density. Is the government listening?