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By Ashish Pherwani & Devendra Parulekar

 

It is estimated that India has 127 million C&S television homes, out of which around 32 million are DTH, 7 million digital cable and the balance 88 million analogue cable homes.  The first phase of digitization of analog TV broadcast, which covers the four metro cities – Delhi, Mumbai, Kolkata and Chennai – is mandated to be completed by June 2012, while the entire country is to be digitized by December 31, 2014 when analogue signals will be finally switched off completely.

 

It is expected that the industry will need to invest around Rs75 billion in the process, and Phase I alone will need around Rs11 billion. This is based on the assumption that the cost of digitization per subscriber will be Rs1,500, out of which around Rs600 will be borne by the customer.

 

The following present some of the key aspects of digitization:

 

How does digital cable compare with DTH, the current digital distribution leader?

Digital cable has the capacity to carry 1,000 Standard Definition (SD) channels and surpasses DTH, which can only carry 250-300 SD channels at present due to limited transponder availability. In terms of technology, digital cable is capable of having a “return path”, which is not possible in the case of DTH. This limits the latter’s scope to provide value-added services and dual play. Digital cable is able to provide a larger number of regional channels, and given the growth of the Indian media sector – fueled largely by regional content – this could be a significant advantage for it.

 

However, in terms of customer connect, management capabilities and readiness, DTH players have a definite advantage, since while they have had B2C from the beginning, most Indian MSOs still have B2B. DTH players already have in place customer-centric systems and processes, including multi-lingual call centres and field engineer forces.  They understand the implications of running a B2C business, having already implemented subscriber management systems, customer relationship management systems, and so on.  Moreover, DTH players have already invested heavily on building their brands, using ambassadors such as Saif Ali Khan, Aamir Khan, Shah Rukh Khan and Abhishek Bacchan, thereby making DTH an aspirationally more desirable product.

 

Due to the factors mentioned above, it is expected that there will be a churn of subscribers from cable operators to DTH, particularly in Phase I. While certain MSOs peg this churn at 15 per cent in favour of DTH, DTH players are more optimistic and expect to gain up to 40 per cent of MSOs’ customers. This churn will, however, largely depend up the readiness of MSOs to meet digitization deadlines and also take advantage of the marketing and sales efforts of MSO and DTH players.

 

Another factor that needs to be considered is Headend in the Sky (HITS).  HITS operators may find it advantageous to assimilate smaller LCOs by becoming their technology service providers and providing them with content as well as SMS, CRM and billing services.  However, this could pose issues for MSOs, who are counting on aligning themselves with such LCOs.

 

Evolution of the distribution system

The distribution system comprises four key segments:

• DTH companies
• Large national multi-service operators (MSOs) – 5-6 players
• Small MSOs with a regional presence – around 25 players
• Small LCOs (local cable operators) – around 40,000 players

 

Currently, national MSOs have interests in several smaller MSOs and LCOs. This is either in the form of investments or JV agreements.

 

Going forward, the distribution system is expected to evolve, based on the ability of small players to scale up their operations. Today, the main role of an MSO is to buy content from broadcasters, decrypt it and distribute it to LCOs for last-mile distribution to customers. All customer-facing operations are performed by LCOs, which include billing, collection, repairs and maintenance.

 

Once digital addressable systems are set up, some of the smaller MSOs or more competent LCOs may decide to provide all services to customers themselves. In this event, they may break away from their parent MSOs, and assisted by funding and systems setups, be in a position to manage their customer bases on their own, and thereby gain a large share of the total subscription revenue generated.

 

Therefore, we expect that broadcasters may not only be dealing with the big 5 MSOs, but the big 50 MSOs as well in a short time, which would be a definite advantage for them.

The depth of relationships of MSOs with their JV partners and the LCO community will be critical for a successful national roll-out.  It will determine which and how many LCOs team up with each MSO, as well as the share of revenue an MSO can expect to receive from LCOs.

 

The entry of pure-play global cable operators such as Liberty and Comcast could result in consolidation of the industry.  The proposed change in FDI limits for all cable distribution to 74 per cent, and the sheer size of the Indian TV market, is sure to interest such global players. PE players have shown a significant interest as well, but appear to have taken a watch-and-wait approach to determine how phase I of the digitization process plays out before deciding on whom and how much they will fund.

 

How will ARPUs move?

Given the past as a benchmark, one likely scenario is that the base pack of free to air (FTA) channels is priced at around Rs100 plus taxes.  Earlier indications from TRAI indicated a rate of around Rs83 plus taxes, but given that several channels are expected to opt for FTA in the digital arena, this will probably increase.  The cost of this base pack is, therefore, expected to increase at an inflationary rate of around 8per cent every year.

 

High growth rates of 10-15per cent are likely to be seen in tier 1 and tier 2 packages, which will comprise most of the popular pay channels, e.g., the GEC and sports channels, and be priced between Rs150 and Rs250 plus taxes.  Premium packages, priced at Rs300-500, and including packages that have a large number of niche and HD channels, will probably grow at 15-20per cent per annum.

 

Compared to the current ARPU of Rs140 per subscriber, we expect that within two years, the average family cost per TV set will increase to Rs250, inclusive of taxes.  The important factor to note is that households with two or more TV sets (according to estimates as high as 20per cent or more in the four metros) are likely to opt for addressable digital systems, and thereby, increase the size of the industry significantly.

 

Application of a price cap, either at per channel level or a package level, could prove detrimental to the roll-out of digitization.  The equilibrium brought about by market forces would ensure optimal price points from a customer perspective.

 

The tax impact could be significant as well.  The so far largely untaxed 88 million analog subscribers will now be subject to taxation, and this is likely to result in an increased cost of Rs25-45 per subscriber per month.  In all probability, this cost (around Rs4,000 crore a year) will be transferred to customers by the industry, and therefore, ability to increase ARPUs may be impacted in the short term.  Therefore, the efficiency of the value chain will be critical in determining the actual incidence of taxes levied on LCOs, MSOs and broadcasters.  The cost incurred to digitize networks also needs to be considered in terms of a one-time write-off or by spreading its impact over several years.

 

How will ARPUs be shared?

Honestly, we don’t know.  Today, many LCOs retain up to 85per cent of the revenues they collect from their end customers due to under-declarations made by subscribers, and the balance is split between MSOs and broadcasters in a ratio of 1:2.

 

Different MSOs are proposing different splits.  Some envisage an equal split between the broadcaster, MSO and LCOs.  Some expect LCOs to retain 50 per cent of the collection, even two or three years down the line (given that it would be difficult for them to give up their revenue share).  According to a recent news article, TRAI is considering a regulation whereby LCOs will retain 70 per cent of the collections.  Some sources indicated that MSOs may guarantee revenues for certain LCOs at their current take-home levels for a year or two.

 

Eventually, once addressability sets in, the share of revenues is expected to be driven by services provided to the customer.  Broadcasters will get a share for the content they provide; MSOs for their buying efficiency and the technology support they provide;  LCOs a share that is proportionate to the last- mile and customer-facing activities they provide.  If we compare this to the telecom sector, 60-70 per cent of the revenues are retained by telcom, as compared to 90 per cent by MSOs and LCOs.  This percentage needs to come down to global levels, where less than 50 per cent is the share of the distributors.  But this will take time.

 

How carriage fees are likely to move

Every business has a cost of distribution, and media is no different.  The cost of carriage will remain, one way or the other, whether as a per subscriber technology, a provisioning cost, a fee to place a channel in a package or as one to position a channel within a genre.

 

There is likely to be some reduction in carriage fees, since digitization will result in eradication of the artificial scarcity caused by the analogue infrastructure.  However, in the long term, carriage fees are expected to continue in one form or the other .

 

In all probability, strong channels (and those that are included in much-demanded broadcaster bouquets) will end up paying a reduced carriage fee, and weaker ones will pay a higher amount.

 

The role of TAM

TAM is expected to continue being the leading provider of viewership measurement services inIndia, since no method or technology is currently planned in any large-scale STB implementation program or any other system to find out which person in a household is watching which part of which program.  It may be possible to determine how many subscribers have subscribed to a channel by aggregating data from leading MSOs, but that is not a measure of actual viewership.

 

Alternative business models

Broadcasters and distributors can now think about implementing channels by using innovative methods to share risks and rewards.  Some such methods could be:

• Broadcasters selling channels to distributors to exploit these in the form of ad sales and subscription revenues
• Re-packaging existing channels for local audiences of MSOs and larger LCOs
• Creating channels based on dubbed content from popular channels, to be rolled out as regional language channels across larger MSOs
• Broadcasters, etc., distributing specially packaged film or music channels on a revenue-sharing basis

 

The recent recommendation made by TRAI to limit the total advertising time on pay channels to 6 minutes per hour and FTA channels to 12 minutes per hour could also have a significant impact on the number of channels that continue to “go pay,” should such recommendations become the law.  Such a rule would boost transparency in TV distribution, and given that advertisers would not be willing to pay twice for the same audience reach, would also push up per-channel prices significantly.

 

Moreover, in addition to regular revenue streams, new ones would emerge for MSOs.  For example, Hathway has demonstrated that it can generate 10-15 per cent of its revenues through broadband, and this could become a service other operators can also begin providing. Video on demand, gaming and niche content could also be provided at local levels.

 

In summary, although the timeline for digitization is aggressive, the ordinance is a concrete step toward enabling systematic growth in the industry and more equitable distribution of revenue across the distribution value chain. All stakeholders are expected to benefit from the digitization process – transparency generally ensures this. It is, therefore, in the best interest of the industry that all stakeholders ensure that this initiative is implemented in as speedy a manner as possible, and make sure that no political, regulatory or any other road-blocks interfere in the process.

 

Ashish Pherwani is Associate Director, Ernst & Young & Devendra Parulekar is Partner, Ernst & Young