An Indian court has thrown out Vodafone's challenge to a tax ruling that could leave the mobile phone giant 120bn rupees (£1.7bn) out of pocket.
The dispute centres on whether the British company owes tax to the Indian authorities following its $11.1bn acquisition of a controlling share in the local mobile network operator, Hutchison Essar, three years ago.
Yesterday, the High Court in Bombay ordered the UK group to pay capital gains tax on the purchase, which could amount to 120bn rupees. One company insider said Vodafone was likely to appeal to India's Supreme Court, adding that the case "had never been likely to end in the High Court". In a statement, Vodafone, said it "remains confident there is no tax to pay on the transaction". Lawyers were studying the court's 200-page ruling for much of the day, and said they believed Vodafone had cause for optimism if it did appeal.
The Hutchison Essar deal, completed in May 2007, was organised under a complex arrangement whereby a Dutch subsidiary of Vodafone bought the 67 per cent stake from Cayman Islands-based CGP Investments, which held the Indian telecoms assets of Hong Kong-based Hutchison Telecommunications. Four months later, the Indian government demanded that Vodafone pay capital gains tax on the purchase.
The case hinges on whether Indian tax officials have jurisdiction over a deal between two foreign entities. The court ruled that they did because Vodafone's acquisition of Hutchison Essar involved the transfer of Indian assets that accrued revenue in India.
Lawyers for Vodafone said the High Court judgment indicated that the structure of its Hutchison deal was not a sham, which gave it hope that the Supreme Court would be convinced of its argument.
The High Court told the Indian Tax Authority that it could not order Vodafone to pay the unpaid tax for eight weeks. The company said this would give it "time to review the judgment in detail and consider its next steps".
The court's ruling emerged shortly after Vodafone confirmed rumours that it was selling its entire 3.2 per cent holding in China Mobile, the country's biggest wireless operator. It has already offloaded its stake and expects to raise £4.3bn.
Vodafone, which first bought into China Mobile in 2000, said that even after the disposal the two companies would continue to co-operate in areas such as roaming, network roadmap development, multinational customers and green technology. About two-thirds of the proceeds of the sale will be returned to shareholders via a shares buyback, with the remainder used to reduce Vodafone's net debt.
Vittorio Colao, the chief executive, said the transaction "achieves a near doubling of [our] original investment in China Mobile and combines our stated portfolio strategy with ongoing cooperation with China's leading telecommunications company".
Vodafone is searching for a successor to its chairman Sir John Bond, who faced down shareholder unrest this summer.
Vodafone's potential sales
Vodafone chief executive Vittorio Colao has made it clear he does not want to be in the business of holding minority stakes. Vodafone's sale of its 3.2 per cent holding in China Mobile for an estimated $4.3bn (£2.8bn) this week, underlined his sentiments, and speculation is rife that more deals are in the pipeline.
The group is also rumoured to be looking to sell its 44 per cent stake in the French mobile firm SFR, almost certainly to Vivendi, which currently owns the rest of the company. Analysts at Jefferies have valued Vodafone's stake at £6bn, and said it was an "opportune time to exit".
Vodafone is also likely to offload its 25 per cent stake in Polish telecoms group Polkomtel. Its four local partners are keen to sell out, and reports have linked buyout groups including Apax Partners, Blackstone, TPG and CVC Capital Partners with a bid. Yet, investors and analysts are most anxious over the future of Vodafone's 45 per cent holding in Verizon Wireless. The US mobile group, whose majority owner is Verizon Communications, has not paid a dividend since 2005. Analysts predict the dividend will be resurrected in 2012 and one Vodafone insider said the company had three options. It can wait for the dividend; deepen its relationship with Verizon or sell the stake entirely. Either way, Vodafone's shareholders are demanding a resolution in the US.