How will players react to Cellcom's price hikes?

Gad Perez

The Israeli mobile telephony market is in crisis, with companies resorting to accounting tricks to avoid reporting losses.

The NIS 10 increase in the monthly price for mobile telephony packages announced by Cellcom Israel Ltd. (NYSE:CEL; TASE:CEL) was unavoidable. Mobile carriers are losing money on their operating activity, and are resorting to accounting tricks to keep their heads above water. Cellcom is the first to say "enough is enough."

Simple arithmetic shows that Cellcom had little choice. For example, if a given company has 2.5 million subscribers and is losing an average of NIS 3 on a monthly subscription, this means that it is losing NIS 7 million a month - NIS 84 million a year. In such a situation, no accounting technique can enable a company to report a profit.

The CEOs of the mobile phone companies, especially the large ones - Cellcom, Pelephone Communications Ltd., Partner Communications Ltd. (Nasdaq: PTNR; TASE: PTNR), and HOT Telecommunication Systems Ltd. (TASE: HOT) - have no choice. They realize that it is time to make difficult decisions. Retaining current price levels will eventually cause one of the companies to collapse, and prices will then rise in any case. Cellcom was the first to take up the challenge. CEO Nir Sztern, or others in the company, pounded the table. They decided to do something and admit that it was impossible to go on this way. The question now is how the market will respond to the measure.

Cellcom is taking a considerable risk in raising prices for new customers, but it appears that this time, it really had no choice. It is likely that its guidance for next year and for 2018 as a while forced it to take this action. Raising prices is something that we have not seen in the mobile telephony market for many years. In recent years, we have become accustomed to seeing companies announce bargains, generous surfing packages, and price cuts. A change in such a competitive market is an unusual step designed to deliver a message to the entire market.

Cellcom's message is that a relatively small price rise is something that the public can take. If Cellcom's competitors follow its example, it will be possible to create a gap between the veteran companies, which provide services and added value, and the small players, which are mostly price players.

It is very doubtful, however, whether this will happen, because mobile telephony has become a very cheap product, and it is much more difficult now to reverse the trend; Cellcom's step is therefore a bold one. On the other hand, the entire mobile telephony market needs NIS 10 more just to put its average revenue per subscriber on its feet. It is also possible that Cellcom believes that the public will not get upset and leave a company just because of NIS 10 a month.

A warning sign of an imminent price rise was visible a long time ago. Anyone who wants to see investment in advanced infrastructure and technology, and who knows the mobile telephony market, realizes that it is unavoidable. There are five reason for the change in trend:

1. Large expenses - when Cellcom notified the Ministry of Communications that it was having trouble meeting the requirements for a change in frequencies and asked for permission to postpone publication of its 5G tender, it was a warning sign that something was happening. Like Pelephone, Cellcom is committed to building a new mobile phone network in a new range of frequencies at a cost of NIS 200-250 million. Cellcom will find it difficult to meet this commitment in the current situation, in which revenue continues to dwindle, while expenses are still going up. This is happening as a result of expenses in television and IBC, the fiber-optic venture, where Cellcom is on the verge of completing a takeover.

2. Billions in debt - Cellcom owes NIS 2.5 billion to banks and bondholders. At a time when its cash flow is shrinking, among other things because of declining sales of end-user equipment, Cellcom needs new growth engines to pay its debt. Like any other responsible company, it has to do everything it can in order to deal with the situation forced on it, including an effort to obtain regulatory concessions and a reduction in investments. Cellcom's free cash flow totaled NIS 56 million in the second quarter, compared with NIS 77 million in the corresponding quarter last year, a 27% drop, with further deterioration in store.

3. Stuck in 3G - Cellcom is delaying the completion of its 4G deployment. So far, customers have not complained vociferously about this, because a combination of the frequencies obtained from the merging of its network with that of Golan Telecom and We4G have helped Cellcom improve its user experience, but this cannot last for long. Cellcom has never emphasized speed as a means of distinguishing its network in competition with Pelephone and Partner, and is not doing so now, either. The company therefore feels that it can delay its investments a little more.

4. Regulatory requirements - If Cellcom lacks the money to complete its 4G deployment, how can it be expected now to buy 5G frequencies? According to statements by the Ministry of Communications, the tender is supposed to be published in December this year. Even if it is delayed slightly, it will not substantially change Cellcom's ability to withstand the expense of building a new network, despite the fact that the work is to be done as a single unit: at the demand of the Ministry of Communications, its frequencies will be moved from 850 Mghz to 900 Mghz and it will also prepare infrastructure for setting up a 5G network at the same time. This is still not enough.

5. Only a trial balloon - Sztern has opened a time window. The decision to raise prices could be a case of easy come, easy go. The big question is whether Cellcom really intends to increase the price, or whether it is playing a game - raising the price officially, but still selling at bargain prices through the marketers and Dynamica Cellcom. If separate tracks are established and Dynamica Cellcom continues to be Cellcom's arm for competing with 012 Mobile, Walla Cellular, Pi Mobile, etc., it will mean that Cellcom has done little other than launch a trial balloon. If Cellcom really raises its price at Dynamica Cellcom and all of its other sales channels, it means that its intentions are serious.

The conclusion is that Cellcom is feeling its way in the dark: if its measure is successful, fine; if not, it can always backtrack. In the end, the competition between the mobile carriers is decided by stands in shopping malls and telephone marketers. That is where most of the competition takes place. In practice, the current competitive arena is NIS 29 a month for a package with 30-gigabyte surfing - the prices offered by Golan Telecom, 012 Mobile, and We4G.

Sztern has therefore opened an interesting time window for himself. On the one hand, if Cellcom's measure is successful, it means that the company's competitors will also raise their prices, which will enable the small players to raise the price from NIS 29 to NIS 39. If none of them rises to the challenge, then Cellcom will at most lose a few thousand customers. Ostensibly, the move is right for the company, and is worth a great deal of money. On the other hand, the risk is very low - losing only a few thousand customers. This is the key.

Published by Globes, Israel business news - en.globes.co.il - on October 31, 2018

© Copyright of Globes Publisher Itonut (1983) Ltd. 2018

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