India Hangs Up on the Mobile-Phone Industry — and Investor Confidence

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Manish Swarup / AP

An Indian buyer carries his purchases at wholesale market in New Delhi on Feb. 2, 2012. On Thursday, India's top court canceled 122 cell-phone licenses granted to companies during an irregular sale of spectrum

India’s Supreme Court decided yesterday to cancel 122 controversial mobile-phone licenses, ending nearly three years of uncertainty but opening up a new round of skepticism about India as a destination for foreign investment.

At issue are the licenses for 2G spectrum allocated by A. Raja, who was India’s Telecom Minister until November 2010. He resigned under intense public criticism and allegations by India’s top auditing agencies that he designed the allocation process to favor certain companies, who bought the spectrum at bargain prices. Raja was arrested last February and is in custody awaiting trial.

The “2G scam,” as it’s known in the local press, really started to raise public ire after the 2010 auction of 3G spectrum. That process was different — it was an open auction and generated much more money for a much smaller number of licenses. Pointing to the discrepancy, Raja’s critics concluded that the bizarre process for 2G spectrum (bidders, for example, were given only 45 minutes’ notice to submit their documents) must have been improper. The auditor’s report concurred and put a staggering estimate on the imputed loss of revenue to India’s exchequer — nearly $34 billion. The Supreme Court has now gone a step further, in a judgment that calls the 2G allocation “illegal” and “wholly arbitrary, capricious and contrary to public interest apart from being violative of the doctrine of equality.”

Until now, the fate of the all those licenses has been in doubt. Many of the original buyers quickly sold their licenses to big foreign telecom firms, which used the 2G licenses to enter India’s huge mobile-phone market. They have been selling service to millions of subscribers all this time (the ruling gives them four more months), assuming that they would be able to continue doing so — perhaps by eventually having to pay some additional figure for the underpriced sum. When the scandal first emerged, canceling the licenses altogether seemed like a principled but impractical solution — the government certainly had the power, but doing so would have upset not only foreign investors and ordinary consumers but also the many friends of the Congress Party in the Indian telecom industry. The government decided to do nothing, and yesterday, the Supreme Court took that stand instead.

The outcome may be the worst case possible for those worried about wobbly investor confidence in India. First, it sends a signal to companies dealing with India’s powerful ministries and bureaucrats that following the letter of India’s regulations is not enough. The companies involved in the 2G allocation followed the rules set by the sitting Telecom Minister — however arbitrary that process might have seemed. Telenor’s CEO told Reuters,

“We met every inch of that regulation of that license. We have brought competition to the Indian market … just to see a ruling that has significant retroactive consequences. It is an action that we have never seen in any country before.”

Despite economic liberalization in many sectors, India’s rules regarding foreign ownership of companies, imports, exports and taxes remain extremely complex. They have helped put India 132nd out of 183 economies in the World Bank’s latest ease-of-doing-business rankings, and this latest development isn’t likely to move India up.

Second, the judgment gives India’s telecom regulators a do-over: it can hold an auction for 2G spectrum, which would allow it to raise much more revenue than it did the first time around —leaving the details of the new auction to the same telecom regulators and bureaucrats who failed to rein in Raja. Privately, telecom companies say they are increasingly frustrated with India’s regulators, who seem more concerned with maximizing revenue than protecting consumers or developing the industry. Publicly, they go along with whatever the government demands — India will soon surpass China as the world’s largest mobile-phone market, and every company in the industry wants to be there. They may be reaching a breaking point. Industry executives — foreign and Indian — have recently banded together to complain to Indian Prime Minister Manmohan Singh and the current Telecom Minister, Kapil Sibal, about rules that they say would upend the 3G mobile market. When the 3G spectrum licenses were issued, regulators stipulated that they would allow “intercircle roaming” — so companies could offer their customers service nationwide. Now regulators have changed their minds, deciding those expensive 3G licenses don’t include roaming after all.

This isn’t the only industry that has become wary of India’s tantalizing but not-quite-free market potential. After the Indian government decided (following a politically disastrous round of flip-flopping) not to allow Walmart and other “multibrand” retailers to own 100% of their Indian ventures, it made a concession. “Single-brand” retailers, like IKEA, were welcome to do so. But with a catch: they would have to deal with rules requiring at least 30% local sourcing. Here’s what IKEA’s spokeswoman told the Wall Street Journal:

“India is still a very interesting potential retail market for the IKEA Group, but we need to understand what the guidelines will mean for us. We have found that the conditions applied to local sourcing from [small and midsize enterprises] might be difficult for us to live up to.”

Finally — in case there was any doubt — the Indian government has made it abundantly clear that the political fallout of the Supreme Court judgment is far more important to it than the opinions of foreign telecom companies. The Congress Party is extremely vulnerable on the issue of corruption in state elections this year and national polls in 2014, and at a press conference today, Sibal’s main talking point was that his government is not to blame. He claimed that it was only following the rules set by an earlier government and that the only villain in the story is Raja, who “did not pay heed to the good advice of both Prime Minister Manmohan Singh and the Finance Ministry.” Sibal did not mention that Singh and Congress Party president Sonia Gandhi rewarded Raja with a second term as Telecom Minister in 2009. Having hung up on the mobile-phone industry, Singh’s government is now hoping that voters will still take their call.

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