When you’re up against CK Hutchison and Three’s powerful tycoon Victor Li, desperation is dangerous.
Nick Read needs to remember Theresa May’s mantra that no deal is better than a bad deal. Vodafone’s CEO, and staunch advocate of telecommunications sector concentration, is in talks with Victor Li’s CK Hutchison to merge their UK units, according to the Financial Times. After the M&A setbacks in Spain and Italy, you are running out of options. When facing off against one of Hong Kong’s most powerful tycoons, desperation is a difficult starting point.
The basic problems of European telecommunications entrepreneurs are the enormous costs of investment in networks and low profitability. Hence they want regulators to let the number of operators in each country drop from four to three. Yet despite his talk about the rally, Read has done very little. In February he turned down a proposal from smaller rival Iliad in Italy. A month later, his company, of 33,000 million pounds (39,000 million euros) was left out of the game in Spain when the French Orange associated with MásMóvil.
This puts the spotlight on the UK, where CK Hutchison’s Three is a distant fourth operator, with just 8m subscribers. A merger with Vodafone’s 16 million customers in the country would put the pair close to market leaders O2 and EE, owned by Telefónica and BT respectively. It could also mean significant savings.
Vodafone’s £39bn (€46bn) net debt, equivalent to 3 times EBITDA, means that Read cannot buy Three outright, leaving a merger as his main option. Based on their respective 2021 EBITDA, Vodafone should own 69% of the combined entity, and Three 31%. However, this would leave Vodafone consolidating the company’s debt, and CK Hutchison a minor player. A 50/50 split seems more acceptable.
accounts
That might still work for Read. The union of both would create a telecommunications company with a value of almost 19,000 million pounds (22,000 million euros), assuming a multiple of 7.5 times the EBITDA and merger synergies worth 4,000 million (4,700 million) in money current, in line with the failed Three and O2 deal in 2015.
With a debt of 4 times the EBITDA, its own funds would be worth 11,000 million (13,000 million), which implies that Li would have to pay Vodafone 2,000 million (2,300 million) to increase its participation to 50%. If the debt that Vodafone could transfer to the new company is taken into account, its indebtedness would be reduced by more than 7,000 million (8,200 million), up to 2.7 times the ebitda of this year, we calculate.
The risk is that Li will make a tough deal by demanding a higher valuation for Three due to its higher growth. To avoid that, Read will have to play harder than she probably is.
