KPN, Telefónica to merge German units in survival plan, but hurdles lie ahead

After months of speculation and denial, KPN and Telefónica Deutschland said this week that they will merge their respective German businesses to form the country's largest mobile operator with a 37 per cent subscriber market share, unlocking potential savings benefits of up to €5.5 billion ($7.27 billion).

Dutch operator KPN said it will sell 100 per cent of its E-Plus business to the Spanish-owned operator in return for €5 billion in cash and a 17.6 per cent stake in Telefónica Deutschland once the transaction is completed, implying a total value of €8.1 billion for the transaction. Germany would then have three mobile network operators, but much rests on how the deal will be greeted by antitrust authorities in Germany and the European Union.

"In an environment where in-market consolidation has been put under intense regulatory scrutiny...we believe such a deal would face significant hurdles in principle, even before discussing potential concessions," Jefferies analyst Ulrich Rathe wrote in a research note.

In addition the Financial Times reported that KPN has not yet won the approval of its largest shareholder, América Móvil, controlled by Mexican billionaire Carlos Slim. Citing unnamed sources close to the deal, the report said two KPN directors appointed by América Móvil did not vote in favour of the deal.

The move reflects the challenging situation on the German mobile market, and represents a survival plan for the two smallest operators in the face of strong competition from former incumbent Deutsche Telekom and Vodafone Germany. The combined company will have 43 million mobile customers and combined revenues of €8.6 billion.

"The combination of E-Plus and Telefónica Deutschland will establish a mobile operator with attractive synergy and growth potential in Europe's largest economy," KPN CEO Eelco Blok, said in a statement. "KPN Group post the sale of E-Plus will focus on its core geographies."

Indeed, KPN has struggled to make headway in Germany, despite implementing a strong multi-brand strategy to target different segments of the market, including the recently launched low-cost brand yourfone.

Vodafone Germany, which has also been seeking ways to better compete on the German market to reverse its declining revenue, is now buying Kabel Deutschland as part of its convergence strategy. This development is likely to have hardened the resolve of KPN and Telefónica, which markets mobile services under the O2 brand, to pool their resources. All four operators are building LTE networks, and also face an earlier spectrum auction than expected, which would put further pressure on their finances.

"It has become glaringly obvious that the German market was becoming too much of a headache for the players," Ovum analyst Emeka Obiodu said in a research note. "So [the] announcement is in line with expectations that consolidation was inevitable…As the third and fourth players, [Telefónica's] O2 and E-Plus did not have the scale to adequately compete in a market where ferocious price competition has led to declining revenues and profits for telcos."

Obiodu added that three players in European markets is the right balance "in order to ensure adequate market competition while retaining healthy profits for the players." Other markets such as Austria and Ireland are also following the same route, after Hutchison Whampoa acquired Orange Austria and recently announced the planned merger of 3 Ireland with O2 Ireland.

The big question is, can the KPN/Telefónica deal win regulatory approval? The Austrian merger took a year to go through, and was only allowed to go ahead under strict conditions. Telefónica has already said that it expects the transaction to be closed during the first half of 2014, and is clearly expecting a drawn-out regulatory process.

"The deal is very positive for Telefónica from a business perspective while it doesn't affect its debt position," Borja Mijangos, an analyst at Interdin Bolsa, told Bloomberg. "My biggest concern down the road is potential regulatory issues that may delay the transaction or request some conditions to the agreed deal."

Telefónica Deutschland said it will help finance the purchase through a €3.7 billion rights issue underwritten by its parent company.

For more:
- see this Reuters article
- see this Bloomberg article
- see this FT article (sub. req.)
- see this KPN statement
- see this Telefónica statement

Related Articles:
German operators face new spectrum auctions in 2014
Vodafone to land Kabel Deutschland in €7.7B deal
Report: Early spectrum auction a 'nightmare scenario' for German operators
Telefónica Germany plots fast data, convergence strategy after tough Q1
O2 Germany's IPO boosted by 3-year tax holiday
Telefónica on track with European revamp, claims COO

Suggested Articles

Sprint said it will offer discounted service to customers age 55 and above.

Unlimited data plans placed a strain on carrier networks last year, but according to OpenSignal the carriers met the challenge.

Verizon plans to bring 5G to four U.S. cities this year and hopes to have standards-based equipment in place for some of those deployments.