Hong Kong's high roller

BUSINESS
Face value

Jan 6th 2005
From The Economist print edition

Canning Fok is still adamant that his massive bet on 3G telecoms services will pay off

IN A city with a passion for gambling, it is fitting that the biggest bet in Hong Kong's recent history has been laid by its top company: Hutchison Whampoa has staked $22 billion on the global success of third generation (3G) mobile-phone services.

Though Hutchison is controlled by Li Ka-shing, Asia's richest man, and his son Victor is deputy chairman, the investment in 3G, which (among other things) enables users to download music and make video calls on their phones, has become associated with Canning Fok, the group's managing director for the past 12 years and a long-time aide-de-camp of Mr Li senior. Given the huge cost of buying licences and building infrastructure, start-up losses and early setbacks—clunky handsets, patchy coverage and slow data downloads—it is not surprising that the 3G adventure unsettled investors. Eighteen months ago it strained the finances of Hutchison, a ports-to-property-to-retailing conglomerate with nearly $19 billion in revenues and almost $2 billion in net profits in 2003, and even threatened Mr Fok's job.

Today, the rotund 53-year-old with a trademark pudding-bowl haircut has regained his boyish grin. Subscriber numbers in Britain, Italy and several smaller countries—which failed to hit his predicted 1m by the end of 2003—soared to almost 6m in December 2004, well above forecasts. “Demand is tremendous,” boasts Mr Fok. He demonstrates new, improved 3G handsets with childlike enthusiasm. “This LG model is selling like hotcakes,” he says, calling up the latest soccer scores and a live video clip of Hong Kong's traffic jams while dismissing this reporter's PDA-phone: “I don't believe in handheld computers.”

Mr Fok spends 60% of his time on 3G, checks updated subscriber figures every two hours until his bedtime at 2am and accuses the media of being too “emotional” about the issue. But he feels good about the decision to plough the nearly $20 billion windfall Hutchison made from selling Orange, its 2G telecoms operator, to Germany's Mannesmann (it was later sold on to France Telecom) in 1999 at the peak of the telecoms boom, straight back into 3G—which he says will make its first operating profit in 2006.

Many industry experts remain sceptical. Hutchison is courting subscribers by subsidising handsets, even giving away some phones, as well as offering free minutes, free text messaging and low-margin pre-paid plans. “It is easy to get carried away with the subscriber numbers. We are concerned that Hutchison won't make an economic return in this decade,” says Chris Alliott, an analyst at Nomura, an investment bank.

And as the cost of acquiring a 3G customer rises (to €270 in November from €252 in July) Hutchison's annual average revenue per user is falling—from €51.5 to €44.5 in the same period.

Another analyst says that subscribers mainly want Hutchison's 3G service because it offers the cheapest voice telephony, not for its lucrative data downloads, and that average revenue figures are misleadingly reported “gross”, before discounts. One Hong Kong tycoon, a friend of Mr Fok, is unconvinced: “3G is a gamble that I don't think will work. Who really wants video conferencing? Think how disastrous it could be for Hong Kong men if their wives call when they are with their mistresses. And I don't want business partners seeing who else I am doing deals with.”

Hutchison has been discounting so aggressively to capitalise on its early launch by locking in customers. But since November it has faced increased competition in Europe from Vodafone, the world's leading wireless provider, and two of the other five mobile operators in Hong Kong—SmarTone and CSL—launched 3G in December. Partly as a result, Cusson Leung, an analyst at Merrill Lynch, expects Hutchison's 3G operations to make an operating loss of $1.3 billion in 2006—when Mr Fok expects to be in the black—plus almost $1 billion in associated interest costs.

Even though Hutchison would be big enough to shoulder such a burden, it is hard to shake the impression that its obsession with 3G has distorted management priorities. Analysts accuse the group of selling some of its best assets, such as its stake in Procter & Gamble's Chinese consumer goods operation, to produce exceptional gains and so compensate for 3G losses—something Mr Fok denies. The group's stake in Canada's Husky Oil, highly profitable at current prices, may be on the block next, reinforcing Hutchison's reputation as an asset trader rather than a builder of businesses. Mr Fok bristles at that description.

In response to such criticisms, Hutchison has tweaked its strategy, floating minority stakes in various businesses to raise money while retaining control. For instance, most of its smaller telecoms operations, grouped as HTIL, now have a minority stake listed in Hong Kong. In December, Mr Fok talked about an early flotation of its Italian 3G business. Hutchison claims that such financial engineering reveals to investors the hidden value it has created. But the fact that its shares trade at just 1.2 times net asset value and at a discount to the Hong Kong market average suggests that the conglomerate pays a price for its complexity.

The wrong call?

An arguably even bigger criticism relates to the opportunity costs associated with 3G. With China on its doorstep and Mr Li's excellent connections there, Hutchison could surely have invested its Orange windfall more profitably on the mainland, where it already has property, infrastructure and retailing interests. Mr Fok says it is expanding as fast as it can in China. But that is probably true only of ports. Though it is growing in retailing, for instance, Hutchison still owns only 27 supermarkets and 100 drug stores on the mainland, compared with 3,500 stores in Europe. In property and in building materials, other Hong Kong investors, such as Vincent Lo's Shui On group, have pulled ahead. Hutchison's bet on 3G is not the disaster it threatened to become a year ago. But Mr Fok surely has more long nights ahead.

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