Vodafone's challenge now is to bridge the value gap. On the plus side, the company has clear control of an asset which, thanks to its position in one of the world's fast growing emerging markets, has plenty of potential***

Vodafone's Indian victory has given it an uphill task. The UK mobile operator's $5 billion deal to buy Essar's 33 percent stake in their Indian joint venture ends a messy dispute. But Vodafone has had to pay a high price.

By asking Vodafone to buy its entire shareholding at a value agreed in 2007, Essar has chosen the simpler of two options. The Indian group considered an alternative, which could have seen it sell part of the stake at a difficult-to-define "fair market value". Earlier this year, Vodafone fought off an attempt by Essar to manufacture a value for the business by injecting part of its stake into an illiquid stock market vehicle.

The cost to Vodafone, however, is still substantial. The Indian mobile market has become more competitive since the country unexpectedly issued new licences in 2008. At current market valuations, the Essar stake is probably worth no more than about $3 billion.

But the cost to Vodafone of winning outright control does not stop there. First, it's a painful reminder that the company paid top dollar for its foothold in the Indian market in2007.

Second, India's tax authorities think Vodafone owes up to $2.5 billion arising from the capital gain crystallised by the 2007 purchase from Hutchison. Though Vodafone is pushing back hard, it could face a steep extra charge.

Meanwhile, a corruption scandal has engulfed officials responsible for awarding the 2008 telecoms licences. There is nothing to connect Vodafone with the scandal, and the wider implications are murky. But all of India's operators, including Vodafone, may be asked to stump up extra sums.

Vodafone's challenge now is to bridge the value gap. On the plus side, the company has clear control of an asset which, thanks to its position in one of the world's fast growing emerging markets, has plenty of potential. In addition, the Indian telecoms industry may consolidate, which would help Vodafone by pushing up prices. Finally, the $5 billion cost is already on Vodafone's balance sheet and the company has already taken a 2.5 billion pound write-down on its investment. Even so, it won't be easy to extract enough value from the Indian business to justify the sum that Vodafone has shelled out.

CONTEXT NEWS

• Vodafone, the UK mobile telecom group, said on March 31 it will buy a 33 percent stake in its Indian joint venture from Essar, the diversified industrial group, for $5 billion.

• The terms of the deal were set out in an agreement made in 2007, when Vodafone bought into the venture.

• The Essar stake will lift Vodafone's shareholding in the venture to 75 percent.

• To comply with Indian rules over foreigners' ownership of shares, Vodafone will have to bring its holding down to 74 per cent. It plans to do this by selling small amounts of stock to Indian nationals.

• Vodafone also said that a partial IPO was possible.

• Vodafone Essar had 124.5 million subscribers at the end of December 2010, a market with 771 million subscribers in total.

The author is a Reuters Breakingviews columnist. The opinions expressed are his own.