Kazakhtelecom: the Present and the Future
Mr. Kanat Nurov, Vice-President and Chief Financial Officer of OJSC Kazakhtelecom
The national telecommunications operator Kazakhtelecom is a dynamically developing company in the Kazakh telecommunications market. Its performance is comparable with, or even superior to, that of leading players in the international telecommunications industry. Recently the Company has achieved the following results:
• the annual revenue increase for Kazakhtelecom in 2000-2002 was twice that of the national economy, averaging about 22%;
• in 2002, the Company’s net profit was reported to be KZT11.6 billion (in accordance with International Accounting Standards – IAS);
• revenue from data transmission services in 2002 more than trebled compared with 2000 and totalled KZT2 billion;
• in September 2003 a Syndicated Loan Agreement was signed between Kazakhtelecom and the European Bank for Reconstruction and Development for a total of US$110 million for a period of 7 years;
• according to estimates, the number of subscriber lines in the country will exceed 2.2 million by the end of 2003;
• according to estimates, Kazakhtelecom will install more than 180,000 subscriber lines in 2003, including more than 50,000 in rural areas;
• according to estimates, telephone service coverage in the country will average 15 telephones per 100 people by the end of 2003;
• digitalisation of the local network will be increased to 51% by the end of 2003.
Kazakhtelecom’s Market Share
According to marketing studies carried out by the Company, sales in the Kazakh telecommunications market totalled more than KZT95 billion in 2002, including the shares of Kazakhtelecom (59%), GSM Kazakhstan (K’cell) (19%) and Kar-Tel (K-mobile) (8%) (see Table 1).
Despite the fact that a large number of licences have been issued to telecommunications companies in Kazakhstan, Kazakhtelecom’s operation is still subject to regulation by the Agency for Regulation of Natural Monopolies and Protection of Competition (ARNMPC). Because telecommunications services have a heavy social impact, Kazakhtelecom’s pricing policy remains a focus of attention for ARNMPC and is subject to direct and/or indirect regulation, despite the forthcoming liberalisation of the telecommunications industry.
Monthly fees and rates for installation and long-distance calls are regulated by ARNMPC at a level below the true cost. At the same time, the Company is forced to compensate for its losses on regulated services through its non-regulated rates. The greater part of that non-regulated income comes from international calls. Therefore the Company is effectively unable to compete with international telecommunications operators, as the losses from its regulated activities are included in the international rates, rendering them uncompetitive.
Due to these price regulation policies Kazakhtelecom’s subscriber fees are much lower than those of France Telecom, British Telecom, Deutsche Telekom or Telefonica de Espana (Chart 1). However, the maximum level of the Company’s international rates exceeds those of the other companies cited. As mentioned above, the Company is planning to balance out its tariffs as part of the planned liberalisation of the industry, and rates will be reduced significantly (Chart 2).
The Company is known to be applying high service quality requirements for both the minimum range of services and geographical coverage. These requirements have been adopted pursuant to both Government regulation and the Company’s in-house standards. In this connection, the Company is forced to carry out modernisation exercises from time to time, which often prove inadequate. Obviously, the Company’s capital expenditure is reflected in the cost of its services.
At present Kazakhstan has a fully independent telecommunications network, set up and controlled by Kazakhtelecom (Table 2), which cooperates with 172 telecommunications operators in the CIS and elsewhere. The National Operator is paying special attention to rehabilitating and expanding rural telecommunications.
In order to enable Kazakhstan to make adequate use of its unique transit potential and move to international standards, the Company is now completing the construction of the primary Kazakh network, the National Information Superhighway (NIS), which will link the country’s major cities together using fibre optic communications technology.
Primary networks like this form the backbone of telecommunications services throughout the world; therefore the construction of the NIS is one of the priority strategic development tasks in Kazakhstan. Because the country has quite distinctive territorial and demographic characteristics, namely, a huge territory with a generally low population density but overpopulated urban areas), heavy investment is required to build a primary network (some US$150-200 million according to Company estimates). Such a sizable project can only be handled by large companies with the relevant experience, and ones that are capable of raising capital on “soft” terms. On the other hand, because solvent demand from corporate customers and individuals concentrated in big cities forms the main source of the Company’s revenue, and given the profitability requirements for capital investments in a primary network, the NIS is the only possible solution for Kazakhtelecom.
The Company has now completed 45% of the construction work and is planning to complete the project in 2007.
Kazakhtelecom has an interest in two cellular operators in Kazakhstan: Altel (50%) and GSM Kazakhstan (49%, with the K’cell and Activ trade marks). Altel is currently introducing a new mobile communications technology with a view to launching services to the CDMA standard. GSM Kazakhstan is the major operator in the Kazakh cellular communications market with a subscriber base of more than 800,000 subscribers.
The relationship that cellular communications services have to standard telephony is that of a substitute product. On the other hand, mobile communications providers enjoy a greater added value than standard telephony operators. However due to the natural necessity for standard telephony operators to use Kazakhtelecom’s networks, any increase in their subscriber base and revenue will be beneficial for the Company. In fact the Company is represented in a large portion of the cellular communications market and is aware of its excellent future outlook.
Another affiliate of Kazakhtelecom is Nursat, a leading Internet provider and IP operator in Kazakhstan (41.25% stake). Despite the rapid development of IP-telephony in the country, no adequate regulation or legal framework is in place. At present the Company is operating in this market through Nursat.
Finally, the Company holds an 8.175% stake in Ular Umit Pension Fund, one of the three largest Kazakh pension savings funds.
At present the Company’s investments are:
• capital investments in upgrading and expanding its telecommunications network, etc.;
• direct investments in the authorised capital of other companies with a view to making profits and obtaining voting power. The main economic targets of these investments are to add value and/or to save accrued value;
• portfolio investments, mainly in securities, rights to the debts of other companies put out for auction, subjected to assigned procedures, etc. The main economic target is to save accrued value.
Unfortunately, the antimonopoly law imposes some limitations on the Company’s direct and portfolio investments. Having its own funds (net profit plus depreciation charges) and “cheap” loans at its disposal (available due to its high credit rating and conservative financial restrictions), the Company does not have enough freedom to be able to use various types of investments or to maximise their profitability. However, when choosing investment options the Company works at all times by the rule that “investing is more profitable than saving”.
As for capital investment, the Company always carries out a compulsory evaluation of projects using standard procedures, and the decision on whether or not to invest in a particular project is always based upon the usual capital budgeting indicators such as NPV, IRR, PI, etc. The Company is also implementing various projects of social and political importance (including the development of rural communications, etc.), which are often either unprofitable or not cost-effective. The inefficiency of such projects is partially compensated for by injections of funds from commercial projects. Kazakhtelecom accepts the duty of implementing these uneconomic projects because of their high social and political importance.
The rapidly growing percentage of inefficient investments in the telecommunications industry caused by unreasonably high expectations of demand, despite the continuing slowdown in the world economy, exemplifies a poor investment policy. With this in mind, Kazakhtelecom has adopted a conservative approach towards investing. The Company has a project management system in place and each project must be passed by the Project Committee which gives its final approval after evaluating each proposal.
The Company shows positive trends in its financial performance. In 2002 the Company’s sales totalled KZT 56.8 billion, a 24.2% increase compared with the previous year. In the first half of 2003, sales totalled KZT 31.1 billion. The Company’s net profit trends are shown in Table 3, and the net profits of the largest telecommunications operators from developed countries are shown in Table 4 for comparison.
In 2000-2002 Kazakhtelecom exhibited more positive tendencies and a better financial performance than Rostelecom, the National Telecommunications Operator in Russia (Table 5).
The good financial performance achieved by the Company will increase its credit rating significantly. The recognition of the Company’s stable position in the market by foreign investors, the professionalism of its management and its high credit rating were all confirmed by the signing of the Loan Agreement with the European Bank for Reconstruction and Development on 30 September 2003 for a syndicated loan of US$110 million for 7 years with an interest rate of LIBOR + 3.25%. This loan will be used:
• to refinance the Company’s short-term liabilities with an average weighted cost exceeding LIBOR + 7% that will allow the cost of borrowed capital to be reduced; and
• to improve the Company’s liquidity by refinancing its short-term loans with an average weighted period of slightly more than 1.5 years.
It should be noted that EBRD is a professional investor in the telecommunications market and has provided grants to the Kazakh Government for consultancy services in connection with the ongoing liberalisation of the industry. Therefore the Bank has a realistic vision of the Company’s long-term credit rating.
The Company’s Role in Reforming the Industry
The Development Concept for the Kazakh Telecommunications Industry for 2001-2005, approved by Government Resolution No.1564 of 4 December 2001 (the Concept), and the Development Programme for the Kazakh Telecommunications Industry for 2003-2005 (the Programme), are the fundamental documents which will regulate the industry’s future development.
Today the Company’s top priority strategic task is to retain its position as the national telecommunications operator and the key player in the domestic market.
In accordance with the Concept, stripping the Company of its exclusive rights is a prerequisite for the liberalisation of the Kazakh telecommunications industry. At the same time, the Concept provides for government support to the Company in the form of compensation for the early loss of its exclusive rights. Both the management and private shareholders of the Company consider that a licence for cellular communications services would constitute adequate compensation.
At the preparatory stage of liberalisation in the industry, prior to the international and long-distance communications market being opened up to competition, the Company has developed a plan for balancing out the rates of regulated international and long-distance telecommunications. This plan is based on the following principles:
• affordability for all users irrespective of their capacity to pay, which will ensure adequate living standards (access to law-enforcement bodies, emergency medical services, rescue services, certain directory enquiry services, etc.);
• efficient performance by communications providers through establishing rates that will cover their operating costs and secure adequate profitability;
• elimination of the practice of differential rates for various categories of subscribers.
The main objective of the rate balancing exercise is to achieve a break-even level for all services, except those that the Government has included in the list of universal services.
Balancing out the rates for regulated communications services will be carried out in a staged manner. The rates for services with inadequate profitability will be raised, whilst those for international communications will be reduced, subject to approval by the regulating body. The rates for local and international communications will be equalised across all categories of subscribers. It is expected that the rates for local calls will be increased to cover production and delivery costs. In parallel with that, international communications will be made much cheaper, as there will be no need to subsidise unprofitable services. Although the balancing of rates will have a significant social impact, higher local telephony rates are likely to bring about popular discontent and resistance because of the widely held perception of the Company’s high profits and a lack of awareness of its modernisation and development needs and heavy social commitment.
In addition, the amounts of subsidies should be determined by service type and region. To this end, the Government should set social goals in the communications sector in the form of approved criteria, quantities and rates for universal services and region selection.
At the preparatory stage, hourly charging for local communications should be introduced as an important element in allowing local communications rates to be balanced out without a significant, across-the-board increase in fixed rates. Hourly charging for local calls will be based on the principles of social justice and carries certain social implications. In this matter, much as with rate balancing, a proper approach should be developed in order to secure adequate profitability for the Company and take account of its social liabilities and technical requirements.
It should be borne in mind that enforcing regulatory measures in the course of industry liberalisation, coupled with a misinterpretation of the results achieved by the Company, may result in an adverse impact on the operation of the national communications operator. As a consequence, this kind of liberalisation “at the expense” of Kazakhtelecom may result in the loss of all that has been achieved, set the Company back by years and endanger its future development.
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