The
price pressures of the first quarter 2008 have primarily been the result of
so-called cost-push inflation – in other words, price increases are primarily
driven by a rise in the cost of productive inputs (oil, power, commodities,
etc.). From a mobile operator’s standpoint, cost-push inflation is a
double-whammy; it has a negative impact on real incomes and it puts additional
strain on the cost side.
It
should be noted that the relationship between the price of the barrel of crude
and the price of gasoline (wholesale or at the pump) is difficult to establish
with mathematical precision, but does exist. We expect average operating
expenses per base station to increase sharply, as fuel, power and other
maintenance costs increase. Review part II of our analysis here: Download 0608oilfoodpart_ii.pdf
Global
food prices have been rising inexorably over the past two years, with a sharp
uptick in the first quarter of 2008. The numbers are bleak. According to the
World Bank, global wheat prices have risen by 181% over the 36 months to
February 2008; overall global food prices have increased by 83% over that same
period. In January 2008, a ton of Thai rice, an industry benchmark, cost $365.
By the end of April, it had broken the $1,000 barrier before stabilizing around
$900.
At
country level, food inflation has manifested itself through sharp increases in
the prices of basic foodstuff. Examples abound. In Cameroon, the price of a kilogram
of fish has nearly doubled in a few months; as of the end of March 2008, the
price of meat was up 18% from end 2007 and the price of bread 33%. Even beer
has been up, by about 10%. Ugandan diesel is up 25%, as is the price of bread.
In April, Kenya’s headline inflation was 26.6% relative to April 2007,
according to the Kenya Bureau of Statistics, with the food index rising by nearly 37%.
How
do such demand side inflationary pressures impact the mobile service business?
In essence, incomes are declining (1) and mobile prices are rising in real
terms, assuming no action by service providers. We believe there is reason for
MNO concern, for a number of reasons:
Mobile
services are highly elastic in the segment primarily affected by foodstuff
inflation. Various studies have estimated the usage to price elasticity of mobile services in Africa at
anywhere between 0.75 and 1. In other words, a 1% increase in price would
result in a decline in usage lower than 1%, which would make mobile service a
virtual necessity in the economic sense of the term.
Nonetheless,
we believe mobile service usage is not a necessity at the low end, it is a
luxury. Price sensitivity is not the same across the demand curve; price
elasticity will be higher than 1.0 in lower income groups. It is perhaps more adequate to describe usage as a necessary
luxury, a service that serves a fundamental need but is not so critical that it
cannot be dispensed with. This matters because access has become largely free,
and revenue is generated primarily from usage. Another way of putting this is
that subscriber growth patterns are unlikely to be fundamentally affected.
Usage patterns on the other hand will change.
The
elasticity argument is strengthened by the fact that there are some cheaper
substitutes; arguably not service substitutes –fixed telephony will not do-,
but certainly usage substitutes. If prices increase in real terms, customers
will go to the next best thing for outgoing calls; airtime resellers (also
known as umbrella resellers, call-box or cabins), who reduce the affordability
threshold. Subscriptions will be used mostly for incoming calls. This is not
the worst of outcomes for MNOs (at least traffic is still generated), but the
net effect is negative.
The
impact on MNOs is also a function of the proportion of income spent on mobile
services. By our estimates, anywhere from 15% to 30% of consumer expenditure at
the low-end goes to mobile services (the ratios are lower in higher-end
segments). With more income needed to be allocated to food (a necessity the
price of which is rising faster than the price of airtime), households are
bound to slash their mobile spend.
Retailers
and wholesalers that are part of the food value chain bear the brunt of the
inflationary pressures, but are under government pressure or mandate not to
pass it on to the customer. In Gabon, the government capped retailer and
wholesaler margins between 6% and 10%. In Cameroon, the government has been
imposing prices with limited regard for business margins, essentially forcing
the middlemen to take the hit. In some instances, it has encouraged the
bypassing of retailers, setting up caravans selling goods at wholesale prices
around popular neighborhoods. In turn, some small traders are feeling pinched
and many are closing shop, putting additional strain on mobile service demand.
(1)
We do anticipate some upward pressure on wages as governments seek to reduce the impact of inflation, but for now, we assume stable
nominal incomes.
