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May 2010
The Delta Perspective
The various elements
o the South Arican
telecommunications industry
are likely to combine and
result in an exciting and
dynamic year or this market
South African Telecoms in 2010:
Hih staks for th bi winnrsAuthors Andrw Snad Partner
Joao Sousa - PartnerTamm Whman PrincipalDta Partnrs Intinc Unit
Key HIgHlIgHTS
In 2009, mobile market subscriber
growth was stagnant due to the
implementation of the Regulation of
Interception of Communications and
Provision of Communication-Related
Information Act (RICA) and the
economic downturn
Whilst the broadband market grew
significantly, it continues to lag behind
international peers
Mobile players are investing heavily in
building HSPA data networks. Their
challenge is to maintain return on
invested capital (ROIC) especially if
prices erode
When compared with other markets,
current mobile voice prices indicate
potential scope for further reduction
although such matters warrant broader
consideration given other factors such
as low entry price
Vodacom, MTN, Cell C and Telkom
will soon be competing head to head
in the mobile and data space. It will
be challenging for all of the players to
be all things to all customers while
balancing expenditures and managing
international operations
In addition to broadband, we
anticipate mobile payments, social
networking and ICT enterprise services
to be key areas of growth areas for
2010. The latter is unlikely to be the
sole preserve of Telkom, Dimension
Data and other IT companies
Over-the-top players such as Google
and Apple will continue to become
more relevant in both the Consumer
and Enterprise market
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A ook at th hits and misses from our
2009 prdictions:
Prediction 1: MTN and Vodacom will continue to compete in corporate services but will
find it difficult to realise synergies with the mobile business due to organisational and
commercial differences
HIT: Vodacom was over-enthusiastic in its Gateway investment, taking more than
R3bn impairment on the investment, partially due to the negative impact of the
macroeconomic environment
Prediction 2: An international player may enter the mobile market via acquisition or a
new licence
MISS: SA players proved to be the ones moving abroad, not vice versa (although
Bharti came close, once again). However, it is possible that another player could
come in via an acquisition in 2010 or 2011
Prediction 3: Telecom infrastructure sharing will increase across South Africa (i.e., towersand sites, backbone fibre, submarine cables)
HIT/MISS: Some level of sharing at a tower and fibre level. However, this is only
the tip of the iceberg
Prediction 4: Telkoms nomadic W-CDMA offer will struggle to achieve significant results
HIT: The service has only a few thousand niche subscribers. However, Telkoms
big wireless bet is now the national 3G service to be rolled out in 2010
Prediction 5: Telkom will be placed under increasing pressure to deliver a clear strategy
HIT/MISS: A new strategy has been communicated, including the re-entry into
mobile, but the jury is still out regarding execution
Prediction 6: Several VANs will be forced to sell or merge as they will lack the cash to
make necessary capital investments
MISS: Perhaps the prediction came a bit early, but we can still expect
consolidation in 2010 for the ECNS licensees
Prediction 7: Several service providers will be eliminated, as their contracts will not be
renewed by the operators
MISS: Most consolidation or buy-out of service providers happened in 2008 and
not 2009. However, as margin pressures continue, we can expect operators to
negotiate commissions downwards
No look at South Africa in 2010 would
be complete without some mention
of the FIFA World Cup which has
set the imagination of the countrys
population and, indeed, that of Africa
alight. This year brings the worlds
greatest spectacle to the African
continent for the first time and there
is a high sense of excitement. The
announcement of South Africa as the
tournaments host sparked a positive
frenzy of infrastructure upgrading
and expansion, the likes of which the
country has not seen before.
The scope of infrastructure investment
does not merely include transport
and sports facilities, the country is
also heavily focused on increasing
its telecommunications capacity and
quality. However, the World Cup is not
the only impetus for the infrastructure
rollout. Increased competition,
Government encouragement for a
next generation telecoms sector
(capable of servicing the needs of
schools, universities, hospitals and
small businesses) and the recognition
of a significant wireless data
opportunity has resulted in material
investment across the industry.
Beyond infrastructure investment, the
South African telecommunications
industry has proved that change is
the only constant in the market, as
evidenced by the introduction of
RICA, formalization of the ECNS
licenses, a change of guard in the
Department of Communications and,
after much speculation, a reduction in
interconnect rates.
This white paper discusses various
elements of the South African
telecommunications industry and
how these are likely to combine to
result in an exciting and dynamic year
for this market. The paper will draw
on lessons learnt from international
peers and will give an overview of key
industry events that will shape 2010.
While challenges remain, 2010 is a
year in which the market is expected
to start fulfilling its potential.
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EXHIBIT 1: TELECOM PERFORMANCE INDICATORS
1Mobile subscriber lines includes mobile broadband due to nature o the subscription; 2 Includes ixed and mobile broadband; 3Includes ixed broadband, mobile broadband,mobile VAS and advanced messaging.
Source: Delta Partners analysis, Pyramid Research
South African telecoms inthe big picture
When reviewing telecom sector development in
2009, one could argue it has been a mixed year, yet
could have been much worse given the impact of
the global economic crisis on other sectors.
Whilst the voice market growth
was lower than previous years, thebroadband market (as predicted) grew
considerably, albeit from a low starting
point, reinforcing expectations of
considerable latent demand.
When looking at subscribers and
revenues, the fixed business has
declined, particularly in revenue terms.
Telkom attempted to mitigate the
subscriber loss impact on revenues
through the migration to calling plans.
However, it is clear that the fixed-line
market is an extremely mature businessand revenues will continue to erode due
to mobile and VoIP substitution.
Mobile, by far the largest contributor
of revenues, grew by around 8%.
Nevertheless, all operators experienced
less growth towards the end of
2009 principally due to the mobile
registration (RICA) process which both
limited gross adds whilst shaking out
the double-SIM market.
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EXHIBIT 2: TELECOM PENETRATION BENCHMARK
Source: ITU Source: WCIS
Source: Global insights, OECD, ACM
Consulting, CNNIC, TRAI, Telecompapers.com
Broadband was the growth leader
in 2009. Whilst starting from a
small base, the market experienced
significant growth in both fixed and
mobile broadband. However, mobile
has been (and will continue to be) the
predominant access technology. For
fixed line broadband to become more
relevant, local loop unbundling (LLU)
and/or fibre to the home (FTTH) will
need to become a reality.
When comparing with a selected peer
group of Argentina, Brazil, Ecuador,
Malaysia, Mexico and Turkey, the South
African fixed-line and broadband
penetration remains very low, especially
given the comparatively high mobile
penetration, reflecting the lack of true
competition in the fixed-line market.
This peer group was carefully selected
to ensure that comparisons were the
most reliable possible. The selection
comprised countries with a similar
population size, gross domestic product
(GDP) per capita, and population
density. All of these factors will create
different challenges to developing a
telecom industry.
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EXHIBIT 3: PEER COUNTRIES DETAILED BENCHMARK
*Note: Very limited deployment o highest speed
Source: Merrill Lynch Wireless Matrix Q3 09, IMF, OECD, WCIS, GSMA, JP Morgan, UBS,TMG MTR report, operator & regulator websites; Delta Partners analysis
Much has been said in 2009 regarding
the price of mobile communications
in South Africa. From a consumer
perspective, the comparative
effective price per minute supports
the commonly held view that prices
remain expensive and there is room
for further price reductions. Whilst
this is possibly true, one should also
consider other factors too.
Key considerations
Cost of entry - such as the price
of a handset and SIM card. South
Africa, in relative terms, offers very
low-cost SIM starter packs (costing
the customer very little, if anything)
and highly subsidised handsets,even for prepaid, which is a rare
Is mobile voice
communication in South
Africa really that expensive?practice worldwide. Consumers
have been taught by operators that
handsets are effectively free whilst
also offering attractive post-paid
promotions (including fridge freezers
and microwaves) to entice new
customers. Whether such customers
deliver positive value to the operator
over their respective contract period is
highly questionable
Cost to serve including urbanisation
and fuel costs. When viewed in a
global context, South Africa is not
a particularly dense country; it has
a medium degree of urbanisation
and has high energy prices (with
unreliable sources that call for
costly back-up alternatives) which
contribute to the cost per minute
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EXHIBIT 4: GLOBAL REVENUES (RPM) PER MINUTE BENCHMARK
Source: Merrill Lynch Wireless Matrix Q3 09; Delta Partners analysis
Note: RPM based Voice Revenue per Minute. CAPEX/sub based on average CAPEX over 5 last years divided by current subscribers
Attractive and prolonged prepaid
promotions. All players generally
offer attractive pre-paid promotions
(e.g. free on-net minutes for a given
recharge amount) that frequently
run for long periods or are quickly
superseded by alternatives. The true
effective rate per minute is therefore
lower than the published rate
Quality and customer experience.
Although the recent network
performance of all operators is not
without question, there is a significant
degree of investment taking place
which should, if executed properly,
deliver highly reliable, fast andinnovative services to the South
African market. Markets with the
lowest price per minute are often
characterized by low levels of
investment, innovation and quality
As illustrated in Exhibit 3, South
Africa already has one of the fastest
3G networks among its peers and
is now in the process of launching
infrastructure capable of delivering
21mbps. Generally, operators that
have invested in building advanced
high speed data networks have
tended to also have a comparatively
higher rate per minute. (See exhibit 4)
In summary, there are grounds to
suggest prices could reduce further
in South Africa although the debate
warrants broader consideration, beyond
price per minute, which is too one-
dimensional. We would recommendall factors are considered within the
assessment (including entry costs and
investment levels) to ensure the long
term objectives of price competitiveness,
quality and innovation are achieved.
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Infrastructure sharing
Operators need to move from rhetoric
to reality regarding infrastructure
sharing and optimized sourcing. Tower
sharing has been a popular and well
understood topic of debate for some
time but the market is yet to fully exploit
the opportunities. Telkom recently
announced its wholesale agreement
with MTN. Cell C is reportedly
conducting a process to sell-off and
lease-back its towers. However, given
the rate of infrastructure build-out
across the country, it is not clear that
enough is being done to fully exploit the
potential benefits at a time when the
upside could be at its greatest.
On the fibre side, Neotel spearheaded
an innovative network agreement, first
with MTN, and then with Vodacom, to
share the costs of rolling out a national
fibre-optic backhaul network. This
agreement has enabled Neotel to lower
CAPEX and decrease its dependency on
Telkom which has struggled to meet the
demands of all operators.
How can operators ensure
a return on investment?
Given the levels of infrastructure investment
coupled with price reductions and increasing
competition in a maturing market, operators need
to place greater scrutiny and focus on maximising
return on investment capital (ROIC).
Increasing focus on
wholesale and maybe
time for a new MVNO?
Given the current level of network
infrastructure deployment, operators
will be seeking to drive utilization
and monetize their investment. Price
reductions will drive an increase
in minutes of use (MOU), given
an assumed level of elasticity. The
expected explosion in downloading
(and uploading) of high-bandwidth
applications and content through
lower cost smartphones will also
create significant demand on network
resources.
However, operators will undoubtedly
seek to drive wholesale revenues, as
illustrated by the recent deal between
MTN and Telkom. Beyond such mega-
deals, operators could also position
themselves to serve the smaller niche
data players with wholesale-type
solutions. We expect the wholesale data
market to grow significantly given the
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low level of penetration and demand
for high-bandwidth services within the
Government, corporate and small and
medium enterprise (SME) space.
Another option is for operators to
launch additional Mobile Virtual
Network Operators (MVNOs), such
as Virgin Mobile. However, one must
consider if there is there room for
another MVNO alongside the new
entrant Telkom.
Handset subsidies
and channel partner
commission costsOperators need to address the high
subscriber acquisition costs in the form
of handset subsidies and sales channel
commissions. Our internal benchmarks
suggest that subscriber acquisition
costs in South Africa are materially
higher than some of its peers. The
middle-man has clearly enjoyed his
time in the sun but perhaps the pointhas arrived for operators to apply a
greater degree of pressure on activation
(and ongoing airtime) commissions and
handset subsidies.
Outsourcing and
moving towards a lean
operation
Beyond infrastructure sharing, operators
also need to determine how they can
reduce operational expenditure (and
improve capability) though optimizing
other sourcing decisions through
managed services and outsourcing
deals. Example areas include: finance
and accounting, order management,
facilities management, call centre
operations, network maintenance
and support. In addition to improving
capability and cost, such deals can also
help drive cultural change, a delicate yet
critical nettle for operators to grasp.
The impact of RICA
RICA was signed into law and
implemented across South Africa in July
2009. As part of the legislation, it has
become the responsibility of mobile
network operators to implement a
registration process whereby consumers
must provide proof of identity and
residence (passport and hotel address in
the case of tourists) when purchasing a
new SIM card.
While the rationale for the legislation
is laudable primarily to help law
enforcement agencies track criminals
the execution has resulted in a
number of issues.
Firstly, such a process impacts the
rural community significantly. It is
very challenging for rural people
residing in township settlements
to provide an acceptable proof ofaddress. The result is that many
rural airtime resellers have suffered a
material loss of sales, impacting rural
family wealth.
Secondly, the process is very open
to abuse. Any person may register
an unlimited number of SIM cards
and re-sell them on the black market
which undermines the core objectiveof the initiative itself.
Thirdly, the process has been marred
by technical challenges (including
the Gateway system and password
hiccups) which have inhibited
the registration process, severely
impacting the customer experience
and operator revenues.
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EXHIBIT 5: PENDING REGULATORY ISSUES
Inertia on the SA
regulatory front
The new presidential administration
brought with it a wave of Governmental
change, including the appointment of
Siphiwe Nyanda as the new Minister of
Communications. Mr Nyanda has set
out a clear agenda to address the issue
of competition within the South African
telecommunications market, proactively
pushing for competitive reform, not
always with the full support from the
Independent Communications Authority
of South Africa (ICASA), the industrys
regulatory authority.
The most notable area of progress
has been in relation to interconnect,
where termination rate reductions
have been implemented (an industry-
led agreement to reduce peak rates
from R1.25 to R0.89 following strong
Government coercion) and a proposed
roadmap for future reductions. Looking
ahead, greater clarity is required on
spectrum allocation and local-loop
unbundling in particular.
Looking ahead at thefuture of telecoms
Telecoms will continue to be a growth
industry in South Africa. The market
is undoubtedly maturing on the voice
side, yet significant future opportunity
remains. Fixed-line voice will continue
to fall, mobile voice will be relatively
flat, and broadband will drive growth.
Given that South Africa is so far
behind its peers in terms of broadband
penetration, we expect to see annual
growth rates around 20 per cent. The
year 2010 will be a key year for the
South African telecoms market with
existing mobile operators aggressively
focusing on mobile broadband and
Telkom entering the mobile space.
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Other growth drivers include
m-payments (a stickiness rather than
revenue generating proposition) and
the expansion of the information and
communication technologies (ICT)
sector. Telecom and IT spheres are
becoming increasingly entwined and
the current infrastructure investment
should catalyze the outsourcing and
managed services space, bringing
Telkom, the mobile operators, niche
data players and IT players (such as
Dimension Data and Internet Solutions)
into direct competition on the customer
side, yet underpinned by cooperation
on the infrastructure side. The era of
coopetition has begun.
As with other markets across the globe,
Google and Apple will also play an
increasingly relevant role with their
over-the-top business applications
suites. Naturally, they will also drive
consumer data usage through their
ever-expanding application libraries.
How operators extract value from
such applications is probably the most
relevant question in the industry today.
One of the key enablers to mobile
broadband growth is smartphones and
app-phones. The South African market
has been dominated by Nokia and
Samsung in recent years, both of which
offer smartphone-like devices targeted
more towards the middle to higher end.
Perhaps this stranglehold will be broken
by the increasing relevance of lower cost
manufacturers such as ZTE and HTC.
The future of
broadband is mobile
With fixed minutes in decline and very
low internet and broadband penetration
rates, it is clear the next area of growth
will be data. Broadband subscribers
are expected to reach over 9 million by
2013, representing an annual growth of
over 20 per cent for the next four years.
With a poor fixed-line infrastructure
and the high cost of access devices
(i.e., laptops and desktops), mobile
broadband with its instant connectivity
and the ever-decreasing cost of 3G
EXHIBIT 6: EXPECTED GROWTH IN TELECOM INDUSTRY
Source: Delta Partners analysis
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EXHIBIT 7: EXPECTED BROADBAND GROWTH
Source: Delta Partners analysis1 Includes ixed and wireless broadband
handsets is clearly outpacing fixed-line
as the preferred connection type.
According to the Bank of America,
Merrill Lynch, Vodacom and MTN
combined have 1.3 million internet users
versus Telkoms 600,000 ADSL lines
(moderately lower than our estimates).
However, for the prepaid user, the cost
of 3G dongles is still a significant barrier
to entry. We can expect to see low cost
dongles as manufacturers and resellers
are willing to cut margins in return for
higher volumes. Once the price for
dongles, netbooks and smartphones
starts to fall, mobile broadband access
will grow materially.
ICT services
The demand for valued-added
information and communication
technology services is increasing as
corporates and small and medium
enterprises (SMEs) require more
sophisticated services and look for
ways to outsource non-core businessfunctions. The telecom value chain
is converging and telecom operators
face the opportunity and need to
expand their focus and better serve the
Corporate and SME market.
By selling ICT services linked to the
telecommunications services, a telecom
operator is better positioned to:
Protect traditional revenues (be
proactive not reactive)
Grow new revenue streams
Manage margins on traditional
services, avoiding competition on
price per bandwidth (whilst accepting
new-wave services are likely to be
margin dilutive)
Reduce risks on investments in next
generation networking (NGN)
The ICT market will not be the sole
preserve of Telkom or the traditional
IT players such as Dimension Data.
No doubt the altnets (particularly
Neotel) and the mobile players will beevaluating opportunities to expand
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Source: Company, HSBC
EXHIBIT 8: BROADBAND MARKET SHARE FORECAST BY TECHNOLOGY
their corporate and SME relevance,
potentially complementing their HSPA
and fibre infrastructure investments
with femtocells, which provide wireless
broadband access directly to a premise.
Developing a strong positioning in
the IT/IS services requires the set up of
specific competencies and partnerships.
Both MTN and Vodacom have created
units that are dedicated to the mobile
and ICT needs of corporate clients and
they are acquiring businesses such
as Verizon and Gateway to deepen
their expertise and product portfolios.
However, without real local loop
unbundling, the mobile operators may
be limited in their ability to compete
successfully. As highlighted earlier, we
fully expect Google and Apple to play
an increasing role in the ICT market as
they expand their simple software-as-a-
service (SAAS) application offerings.
Mobile payments
With a very significant unbanked
community, South Africa offers a
material opportunity for the mobile-
payment (m-payment) and money-
transfer space. Though operators have
attempted m-payments in one form or
another, the space remains relatively
nascent and fragmented. However, this
will change in 2010 as both banks and
operators address the key issues (such
as ease of use, reliability and access) and
Vodacom launch M-Pesa which has the
potential to catalyze the market.
M-Pesa has close to 10 million users and
over 2 million daily M-Pesa transactions
in Kenya alone. Whilst Safaricoms
very strong market position and local
Government support has been key
to this success (potentially explaining
why M-Pesa has been less successful
in Tanzania), it is clearly an effective
proposition. In terms of key benefits
for the operator, M-payment solutions
can help drive customer retention
(particularly important in maturing
markets such as South Africa) whilst
reducing airtime distribution costs.
The key question is whether Vodacom
can adapt M-Pesa to the local market
reality (including financial regulations
and licensing requirements) and use it
to increase its market leadership. If so,
MTN and Cell C will have to innovate
and react.
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According to independent M&A
intelligence service Mergermarket, M&A
activity in South Africa dropped 61 per
cent in 2009. In 2010, we can expect
South African operators to continue to
proceed with caution.
The largest and most lucrative African
markets have already been conquered
by the major regional players. Few
attractive greenfield opportunities existand prices for many assets have been
expensive raising questions surrounding
shareholder value creation. Operators
are perhaps starting to look further
afield, as i llustrated by MTNs current
discussions with Orascom.
Operators with a high dependence
on the South African market, such as
Telkom, will perhaps look for further
diversification opportunities wherethey will find themselves up against a
new breed of bidders, such as Russian,
Chinese and Indian players.
In the early 2000s, private equity funds
fuelled much of the growth of the
emerging GSM operators. Since those
groups have grown and consolidated,
private equity has been less active in
recent years. However, interest in the
telecom space has picked up againwith a large number of infrastructure
transactions (tower, fibre, submarine
cable and satellite) being discussed.
Investors such as former US Secretary
of State Madeleine Albright, billionaire
investor George Soros, and banker
Jacob Rothschild have created a $350m
fund to invest in Nigerias Helios towers.
This type of activity is expected to grow,
especially in key markets such as South
Africa, Nigeria, Ghana and East Africa.
Role of private equity
and M&A
In 2009, mergers
and acquisitions
(M&A) in South
Africa hit the lowest
levels in six years.
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Telkom
In addition to the windfall gained
from the Vodacom sale, Telkom was
afforded the opportunity to start anew.
In November 2009, Telkom embraced
this by announcing a new Renaissance
strategy focused on creating a full
mobile offering and going aggressively
for the data centre business.
Telkoms entry into the mobile market
may be considered a bold move atthis relatively late stage of market
maturity. However, the company does
have some advantages over other
new entrants such as a full national
core network, expertise in network
technology and a significant (yet
decreasing) customer base.
Vodacom
For Vodacom, control by Vodafone has
placed increased focus on operational
efficiencies. The fruits of its cost
containment programme paid off in
2009 as EBITDA margins increased,
despite a slowdown in revenue growth.
Vodacom did not take its eye off the
market during this period, successfully
defending its market share in South
Africa and lowering its churn levels.
Vodacom has had less success in the
push to diversify its revenues outside
the South African mobile market. The
international operations performed
poorly, due to weak market conditions
and competitive offerings in the
respective markets.
These pressures are likely to continue in
2010, requiring further attention from
management with perhaps an increasing
focus on Vodacom Business which still
remains a fraction of total operator
revenues despite continued efforts to
grow this business.
Operator outlook for 2010
MTN
For MTN South Africa, 2009 was
particularly challenging. It was the
first time that the firm reported
negative subscriber growth, largely
due to the impact of RICA and system
and billing issues.
ARPU also fell slightly due to pressure
on consumer spending. However, MTNs
continued product innovation and
strong marketing campaigns allowedit to defend market share. A new,
segment-driven market approach should
be expected, resulting in a better service
offering and customer experience.
Cell C
In a recent article, the Cell C CEO, Lars
Reichelt, remarked on Cell Cs ambitious
plans to strengthen its market position.
Cell C certainly surprised the market
by announcing plans to launch a new
high-speed data network in 2010. Cell
C is planning to surpass the current
market offering in terms of speed by
launching an HSPA+ network, capable
of delivering very high-speed wireless
broadband services. This bold move
is expected to change the market
dynamics, especially as 3G connectivity
has become a critical component in
mobile offers in South Africa.
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Outlook for 2010: winners and losers
Winners
South Africa will successfully highlight the countrys character and
infrastructure during FIFA World Cup
Broadband will explode in 2010 and 2011
The consumer will benefit from a continued decrease in prices and strong
promotions
Network superiority will become even more important as operators
compete strongly on mobile data
Operators that perfect customer retention tactics will win
Losers
LCR will lose. As interconnect falls, LCR operators will need to convert
subscribers to their networks or will fail to have a relevant discounted offer
Operators who go in to price-war mode and cannot reduce operational
costs will lose. In a mature and increasingly-competitive market, cost
reduction is a must
Incumbents will be pressured. Regulatory changes will put pressure on
current business models forcing incumbents to reinvent themselves
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irm operates across 50 markets in the Middle East, Arica, Eastern Europe and Emerging Asia. Delta Partners provides three
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Corporate Finance: Delta Partners provides corporate fnance services and has been involved in several buy-side and sell-side
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Delta Partners delivers tangible results to its clients and investors through its exclusive sector ocus on telecom, media and
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