India’s telecoms scam has shed light on policy manipulation and backroom deals at the highest levels of government
The scandal in the allocation of 2G spectrum bandwidth to Indian companies revealed by the Central Bureau of Investigation (CBI) and Comptroller and Auditor General (CAG) of India has raised questions about government policy, India’s regulatory regime, and the integrity of large corporations, ministers, bureaucrats and lobbyists. It also puts at risk future foreign investment in the country.
The inquiry into the scam was launched late last year after former telecom minister A Raja was charged with unfairly allocating 2G spectrum to telecom companies in 2008. Reports from the CAG and the CBI allege that the ministry, under Raja, allotted spectrum licences at extremely low rates, defying market logic and blatantly flouting government directives and rules.
Various estimates suggest that undervalued allocation of 2G spectrum could cost the public exchequer between US$20 billion and US$40 billion.
The CBI has accused certain domestic companies and bureaucrats of conspiring to pocket these funds. The CBI suggests that after obtaining undervalued licences, some domestic telecom companies sold their equity to foreign operators who were duped into paying high premiums to enter the Indian telecom sector.
Shyam Telecom, Unitech Wireless, Swan Telecom and Tata Teleservice are among those accused of selling their shares to foreign telecom companies. Shyam sold a 74% stake to Sistema of Russia; Unitech Wireless sold a 67% stake to Norweigan telecom operator Telenor; Swan Telecom sold 45% to UAE telecom operator Etisalat and a 5% stake to Genex in Chennai; and Tata Teleservice sold 26% of its equity to Japan’s NTT DoCoMo.
Policy meddling and manipulation
The spectrum allocation policy of the Telecom Regulatory Authority of India (TRAI) was based on a fixed licence fee with a pricing mechanism that would capture market values. This calculation was based on a combination of a nominal licence fee and a market-determined “spectrum fee” allotted through competitive bidding. Raja was accused of ignoring this policy by handing out licences using 2001 pricing parameters.
The telecom ministry’s plan to favour various telecom operators can be traced back to 24 September 2007. The Department of Telecommunication (DoT), under instructions from the telecom ministry, issued a press release saying it would stop accepting spectrum applications from 1 October 2007 (a week later) – effectively placing an artificial cap on the number of licences it could award. But it later brought forward the cut-off date to 25 September – just 24 hours after its press release had been published. The ministry justified the sudden change in the cut-off dates by citing a huge rush of applications.
In their reports, the CBI and the CAG say that the government received 575 applications for telecom licences. With so many pending applications, it would have been logical for the government to opt for the auction route instead of allocating spectrum on a first-come first-served basis. However, on 10 January 2008, the ministry hastily issued 122 licences, an uncharacteristic move since it usually granted licences only after scrutinizing applicant eligibility for several months.
Further instances of policy meddling were evident from the second press release issued by the telecom ministry. In it, the DoT gave applicants less than an hour to collect their licences, for which they had to submit bank guarantees. Applicants who knew about these requirements due to their clandestine relationships with telecom officials came armed with their bid payments and triumphed in the first-come first-served process, having jumped the long queue of applicants. The entire process lacked transparency and objectivity and has eroded the credibility of the DoT.
Taking a call on corruption
Will a new action plan be enough to create a transparent telecom policy?
On 15 November 2010, the government appointed Kapil Sibal as India’s new telecom minister. In January this year the Department of Telecommunication (DoT) unveiled a 100-day action plan putting forward a proposal for a revised, comprehensive and transparent new telecom policy for 2011 (NTP 11).
No statements were made regarding the changes that would be made to the existing outdated telecom policy of 1999. It was proposed that changes should be made by the DoT after holding consultations with key stakeholders to develop a clear and transparent regime covering licensing, spectrum allocation, tariffs/pricing, linkage with roll-out performance, spectrum sharing, trading, and mergers and acquisitions.
Sibal kept his commitment when he announced the NTP 11 on 11 April, proposing a sea change to the telecom policy of 1999. The highlights of the proposed NTP 11 are:
- Mergers and acquisitions should be liberal; there should not be less than six competitors in each circle, including BSNL
- Spectrum sharing should be considered
- Spectrum will be delinked from licences
- Licences will be renewed after 10 years, instead of 20 years, as was the case previously
- The drafting committee for the National Spectrum Act will be formed under retired Judge Shivraj V Patil
- Various agencies will be responsible for a regular review and audit of spectrum
- A broadband committee formed by the DoT will look into issues relating to the national broadband plan headed by IT adviser to the prime minister, Sam Pitroda
Issues regarding pricing guidelines and the National Spectrum Act still require work, but Sibal is confident that the NTP 11 will be finalized by the end of this year.
The aim of the NTP 11 is to generate reasonable revenue for the government, to provide affordable services to users and enable robust growth of the sector. The NTP 11 will seek to address key issues relating to telecom reforms and lay down policies that could transform the sector into a competitive and efficient one.
It comes as no surprise that the vast majority of applicants awarded a licence failed to fulfil the basic eligibility guidelines issued by the DoT in December 2005. To qualify for a licence, applicants must satisfy a list of conditions including the following:
- The applicant must be an Indian company, registered under the Indian Companies Act, 1956.
- The company must comply with the licence agreement as a part of the memorandum of association of the company. Any violation of the licence agreement will automatically lead to the termination of the company’s business in this area. The duty to comply with the licence agreement must also be made a part of the articles of association.
- The applicant company must have a minimum paid up equity capital of the amount prescribed in the guidelines depending on the service areas it is applying for.
- A promoter company cannot have equity stakes in more than one licensee company for the same service area. No single company, either directly or through its associates, can have a substantial equity holding in more than one licensee company in the same service area for access services, such as basic, cellular and unified access service. “Substantial equity” is defined as equity of 10% or more.
- The applicant and promoters of the applicant company must have a combined net worth of the amount prescribed in the guidelines depending on the service area(s) they are applying for. The net worth of only those promoters who have at least 10% equity stake or more in the total equity of the company will be counted.
The investigation exposed that as many as 85 out of the 122 new licences issued to 13 companies in 2008 were granted to companies which were not eligible. All 85 licences were given to companies which did not have the stipulated paid up capital at the time of application. Furthermore, 45 out of the 85 licences were issued to companies which did not meet the requirements of the main object clause in their memorandum of association. Other applicants had provided incomplete information and went as far as submitting fictitious documents.
Deception and violations
Two applicant companies – Swan Telecom and Loop Telecom – are alleged to have received licences even though they had violated existing telecom laws, which prohibit mobile phone companies from holding more than a 10% stake in two different service providers in the same area. In addition, both held substantial equity holdings in more than one licensee company in the same service area for access services.
The CBI accuses Swan and Loop of fronting for the Reliance ADA Group and the Essar Group – both existing telecom licensees. Reliance holds a majority stake in Swan through its associate company Tiger Traders, and Essar holds substantial equity (through its subsidiary) in Loop. This is a clear violation of existing rules since Essar was also a 33% shareholder in Vodafone Essar.
According to the CBI, Swan and Loop are associates and on those grounds, liable to be charged. However, the definition of an “associate company” is being debated, leading the Ministry of Corporate Affairs (MCA) to declare that Swan – now called Etisalat-DB – and Loop are not associates of Reliance and Essar under the provisions of the Companies Act, 1956.
The MCA stated that according to accounting standard 18 (AS 18) of company law, an associate is defined as an enterprise in which an investor has significant influence and which is neither a subsidiary nor a joint venture of that party. In view of this definition, a subsidiary and/or a joint venture cannot be treated as an associate. The MCA added that to hold significant influence, an investing party should directly or indirectly hold more than 20% of voting power of the enterprise.
Significant influence can also be exercised in other ways, according to the MCA, including representation on the board of directors, participation in policy making, significant inter-company transactions, interchange of managerial personnel or dependence on technical information.
The MCA has asked the DoT and the Ministry of Law to decide if being an associate violated the 10% clause in mobile permit licences, in order to confirm the charges filed against Swan and Loop.
The Mauritius element
Another startling finding in the CBI report revealed a link between the 2G scam and as many as 12 Mauritius-based companies through which many public servants had channelled their investments. The basis of the CBI’s investigation in Mauritius, monitored by the Supreme Court, was a single letter rogatory sent to authorities in Mauritius. A letter rogatory is a letter of request for judicial assistance written by a court in one country to a court in another.
The investigation also revealed that Reliance and Loop are connected to the same address in Mauritius, the Les Cascades Building. Further, investigations exposed that Reliance transferred its entire equity in the form of 10,791,000 shares in Swan to Mauritius-based Delphi Investment.
The evidence indicates that many front or shell companies in Mauritius share common investees and dual ownership when routing investments into the Indian capital markets.
For example, Capital Global, based at the Les Cascades Building in Mauritius, holds shares in Loop Mobile Holdings India through its wholly owned subsidiaries Inditel Holdings, Deccan Asian Infrastructure and Aidtel Holdings. But these three companies also have stakes in Loop Mobile Holdings under a different parent company – Palab Investment – which is also located at the Les Cascades Building.
Although CBI sources have recently stated that the relevant authority in Mauritius has not yet provided details of the actual stakeholders and beneficiaries of the 12 Mauritian companies, the Mauritius route is one of the crucial angles that could unravel many hidden connections.
Several politicians, ministers, bureaucrats and executives have so far been arrested based on the charge sheet filed by the CBI under the Indian Penal Code section 120(B) (criminal conspiracy), 468 (forgery for purpose of cheating), 471 (using as genuine a forged document or electronic record), 420 (cheating and dishonestly inducing delivery of property) and 109 (abetment if the act abetted is committed in consequence, and where no express provision is made for its punishment). The list of those arrested includes A Raja, former telecom secretary Siddharth Behura, Raja’s former personal secretary RK Chandolia, former director of Swan (Etisalat-DB) Shahid Usman Balwa, managing director of Unitech and Unitech Wireless Sanjay Chandra, group managing director of the Reliance ADA Group Gautam Doshi, senior vice-president of the Reliance ADA Group Hari Nair, and senior vice-president of the Reliance ADA Group and Reliance Telecom Surendra Pipara.
There have been rumours that the government is considering cancelling licences that have been issued to ineligible applicants. The TRAI has also proposed the cancellation of at least 69 licences of six telecom operators including Etisalat DB, Uninor, Videocon, Sistema-Shyam, Loop and Aircel.
The TRAI has said that cancelling these licences would free up the airwaves. The TRAI estimates that approximately 2.5-15.5 units of spectrum would be freed up in each of the 22 telecom circles if illegal licence holders were kicked out. The TRAI proposes that the government auction the airwaves, bringing in new revenue for the exchequer.
At the same time, there is growing concern that revoking these licences could anger and create losses for the foreign operators involved. Cancellations could paralyse growth in the sector by drying up future investments and fuelling complex legal disputes.
Analysts say that since the government has already collected ₹737.3 million (US$817,000) through liquidated damages for certain infractions of the issued licences, it could recover the remaining losses by imposing penalties on ineligible licence holders, instead of choosing to cancel the licences altogether, and ensure stricter roll-out obligations in the future.
So far, the DoT is reported to have decided to cancel only eight licences for failure to meet rollout obligations. The DoT has been reluctant to cancel any more than this because of disagreements with the TRAI over the definition of rollout obligations. The regulator has made statutory recommendations under section 11 of the TRAI Act, which the DoT has been grappling with for over nine months.
In a related development, India’s attorney general, Goolam Vahanvati, on 22 August recommended the cancellation of 72 of the 122 2G licences granted in 2008 including those of Uninor, Loop, Swan (Etilsalat-DB), Datacom Solutions and S Tel. Vahanvati stated that these companies did not satisfy the conditions of their memorandum of association (with respect to their telecom business) or did not have the stipulated paid up capital at the time of application, and so did not qualify for licences.
The CBI recently told the CBI Special Court which is hearing the 2G case that it is unable to trace any evidence to prove that there was an exchange of money between Unitech Wireless, Reliance and Raja to establish a quid pro quo. Further, the CBI’s allegations against Swan are based on the fact that it was structured solely to circumvent the existing policy, which bars a CDMA player from venturing into the GSM sector. Thus, Unitech Wireless and Reliance continue to be charged under the scam irrespective of there being no evidence to establish a quid pro quo.
Lessons to be learned
While proponents of foreign investment argue that leniency on foreign operators is required, others say there is no reason why these operators should not be held accountable. This view is backed by the assumption that foreign operators should have invested with Indian companies only after taking due care and conducting proper due diligence from a legal, financial, technical and regulatory perspective.
The Indian telecom sector is already facing negative sentiment from foreign investors and any delay in clearing the air around this scandal could hamper future investments not just in the telecom sector, but in other sectors such as energy, roads, ports and defence.
There are several lessons to take home from the 2G scam; the most important being that uncertain regulations and ambiguous licensing policies will lead to the exploitation of loopholes and corrupt practices, eventually discouraging investment and growth in the sector. This applies not only to the telecom sector but other sectors where policies are hazy and arbitrary and require the attention of policy makers.
Foreign investors should also note that besides conducting technical, legal and financial due diligence on their joint venture partners, a proper and independent understanding of the regulatory regime is imperative before deciding to invest in any Indian business.
Adequate indemnities, representation and warranties should also be obtained from business partners to mitigate problems that may arise due to defaults or non-compliance by these partners.
Indian companies too, must take responsibility and ensure that they do not indulge in or encourage corrupt business practices in securing government contracts and licences.
Sunil Seth is a senior partner at Seth Dua & Associates in New Delhi. He can be contacted by email at email@example.com; and by telephone on +91 11 416 44700 and +91 98 100 55100.