vodafone plc(vod ln) - jefferies - jefferies - the global ... · vod margins benefit from easier...
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GBp Prev. 2015A Prev. 2016E Prev. 2017E Prev. 2018E
Rev. (MM) --£42,227.0 £40,793.0£40,803.0 £41,530.0 £42,435.0 £42,413.0 £43,487.0
EBITDA (MM) -- £11,915.0 £11,650.0 £11,546.0 £12,097.0 £12,226.0 £12,702.0 £12,680.0
Dividend -- 11.22 -- 11.44 11.90 11.79 12.38 12.14
EPS
FY Mar -- 6.89 4.58 4.22 5.27 5.50 6.56 6.80
FY15/16e EPS would be 4.98p adjusted for Project Spring operating costs.Revenues and EBITDA now presented on a statutory basis. Previously headline reporting was on a'management basis' with JVs proportionately consolidated.
Price Performance
JAN-15 MAY-15 SEP-15 JAN-16
260
240
220
200
Rating | Target | Estimate Change
UK | Telecommunications | Telecom Services 26 January 2016
Vodafone plc (VOD LN)Window of Opportunity; Upgrade to Buy
EQU
ITY R
ESEARC
H EU
ROPE
BUY(from HOLD)
Price target 250.00p(from 230.00p)
Price 218.50p
Financial SummaryNet Debt (MM): £21,942.0
Market Data52 Week Range: 258.00p - 201.25pTotal Entprs. Value (MM): £79,711.2Market Cap. (MM): £57,769.2Institutional Ownership: 84.4%Shares Out. (MM): 26,439.0Float (MM): 26,538.2Avg. Daily Vol.: 51,254,760
Jerry Dellis *Equity Analyst
+44 (0) 20 7029 8517 [email protected] Prys-Owen *
Equity Analyst+44 (0) 20 7029 8044 [email protected]
Ulrich Rathe, CFA *Equity Analyst
44 (0) 20 7029 8286 [email protected] Thorne *
Equity Analyst+44 (0) 20 7029 8005 [email protected]
* Jefferies International Limited
Key Takeaway
EU mobile is benefitting from supportive macro/pricing; VOD's performancegap is also narrowing. VOD margins benefit from easier comps post-Spring butalso operating leverage prospects in IT/GER. Reassurance on capex disciplinereinforces the attraction of a covered Mar17 divi yielding 5.4%. LBTY acqnstill needed to secure long term prospects but a credible (value-accretive) dealstructure is now within reach. This is VOD's window of opportunity, in our view.
Macro/pricing backdrop more supportive. Across EU markets, HH disposal incomeis returning to growth; consumer confidence recovering. Easing macro pressure shouldtranslate into less price sensitivity. Mild price inflation is already evident with competitionmore focused on product capability (TV/fibre, raising 4G data allowances), less on cuttingmonthly fees. Hutch has little incentive to discount now when raising prices post-UK/ITmergers (under regulatory scrutiny) will be tough. VOD's performance gap vs. incumbentsis visibly narrowing. This note contains a detailed study of VOD's 'Top 4' EU mkts.
Appealing yield support given reassurance on post-Spring capex discipline. Ina 15 Oct note, we suggested capex "overspill" post-Spring (Mar 2016) could impinge ondividend headroom. SInce then VOD has provided reassurance, guiding that FCF will covernext year's dividend. There may still be circumstances in which VOD identifies projectswarranting accelerated investment but we are more confident now that these would be aspecific / time-limited. With dividends under pressure elsewhere in the FTSE, VOD's covered5.4% Mar17 yield should look attractive.
LBTY acquisition still needed to secure long-term prospects. Last summer we tookthe (then) anti-cons view that VOD is the more likely acquirer for reasons of regulation('European champions' ambition), capital structure and complexity (VOD/LBTYA: Europein Charge, More Likely, 29 May 2015). VOD-LBTY valuations have narrowed substantially.The sort of take-out offer that LBTY might feasibly accept was value-destructive for VOD s/holders last summer but could be materially value-accretive (to both sets of s/holders) now.We present detailed merger analysis in this note, also describing how CWC could be dealtwith.
Valuation/RisksNew SOP-based PT 250p (from 230p) reflects new forecasts/FX. At PT, VOD would trade on6.5x/6.3x EV/EBITDA Mar17/18 (sector 6.8x/6.4x). Carving out Indian assets, stub would beon 6.2x/6.0x. Downside risks: long run forecast risk absent LBTY deal.
Jefferies does and seeks to do business with companies covered in its research reports. As a result, investors should be aware that Jefferies may have a conflictof interest that could affect the objectivity of this report. Investors should consider this report as only a single factor in making their investment decision.Please see analyst certifications, important disclosure information, and information regarding the status of non-US analysts on pages 86 to 91 of this report.
.
Long Term Financial Model Drivers
Revenue CAGR (14/15-17/18E) 1.0%
Adj. EBITDA (14/15-17/18E) 2.1%
Adj. EPS(14/15-17/18E) 7.0%
Other Considerations
Potential Liberty Global Acquisition
Bundesliga Auction in Germany
IPO of Indian Asset
Forward EV/EBITDA (FY16E)
Source: Jefferies estimates, Factset.
Vodafone is a leading global mobile operator with more than 360m proportionate
customers around the world. In recent years Vodafone has added to its core European
business with emerging market acquisitions, notably in India and South Africa. Vodafone is
increasingly offering integrated fixed and mobile services, and owns fixed-line
infrastructure in some markets..
O2/Hutch Merger Review
Ofcom DCMR
Liberty M&A
Bundesliga Auction
Catalysts
Target Investment Thesis
The performance gap against its
competitors notably in Germany, Spain
and Italy is narrowing and underlying
margin trends are improving
Vodafone’s prospective 5.4% yield in
FY16/17 (at current prices) looks very
attractive , especially with dividends
under pressure elsewhere in the FTSE
Our Target Price is 250p, representing
7.2x Mar 17 EV/EBITDA (Offering 19.2%
upside including dividend)
At TP dividend yield would still be 4.7%
Upside Scenario
Vodafone acquires Liberty Global. We lay
out the rationale and the mechanics in
detail in our “Liberty Global Still Necessary
to Secure Long Term Prospects” section in
this note.
We assume a $50 takeout and a £30bn
cash consideration
A credible upside scenario is that the New
Vodafone could trade on 8.0x EV/EBITDA.
New Target Price would be 303.5p with
95p (+43.5%) upside for each legacy
Vodafone SH taking up their rights
Downside Scenario
Competitive pressures intensify in
European mobile, including the potential
threat from fixed entrants such as Sky.
Macro conditions worsen in key European
geographies hamper the return to growth
Worsening EM market conditions damage
Indian IPO
In this scenario we believe that it warrants
a rating of 5.7x Mar 16 EV/EBITDA vs 7.2x
at Target. The price in this scenario would
be 180p
Long Term Analysis
Scenarios
Forward Group EV/EBITDA (FY16E)
Source: Jefferies, All companies at Target price
EPS CAGR, FY14-16E vs EV/EBITDA
Source: Jefferies, All companies at Target price
Recommendation / Price Target
Ticker Rec. PT
VOD LN Buy 250p
BT/A LN Buy 515p
DTE GR Hold €15.8
ORA FP Buy €18.0
TEF SM Underperform €9.6
Company Description
THE LO
NG
VIE
W
Peer Group
Vodafone (VOD LN)
Buy: 250p Price Target
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 2 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Contents WINDOW OF OPPORTUNITY; UPGRADE TO BUY .......................................................................... 4 LIBERTY GLOBAL STILL NECESSARY TO SECURE LONG-TERM PROSPECTS .................................... 16 SPAIN: CAPITAL-INTENSIVE GROWTH RECOVERY ....................................................................... 27 ITALY: MARKET REPAIR MOST EVIDENT; OPERATING LEVERAGE IN VIEW .................................. 41 UK: IN NEED OF PROTECTION .................................................................................................... 53 GERMANY: NEW PRICING SUGGESTS FIGHT BACK UNDERWAY .................................................. 59 MARKET CHARTS ....................................................................................................................... 70
UK – Mobile Market Charts ........................................................................................................ 71 UK – Fixed Market Charts ........................................................................................................... 72 Germany – Mobile Market Charts .............................................................................................. 73 German – Fixed Market Charts ................................................................................................... 74 Italian – Mobile Market Charts ................................................................................................... 75 Italian – Fixed Market Charts ...................................................................................................... 76 Spanish – Mobile Market Charts ................................................................................................. 77 Spanish – Fixed Market Charts ................................................................................................... 78
UPDATED FORECASTS ................................................................................................................ 79
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 3 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Window of Opportunity; Upgrade to Buy European mobile is benefitting from supportive macro/pricing backdrops,
whilst VOD's performance gap is also narrowing against national incumbents.
Vodafone margins stand to benefit from easier comps post-Spring but also
credible prospects for operating leverage in Italy and Germany. Reassurance
on capex discipline post-Spring reinforces the attraction of a covered Mar17
dividend yielding 5.4%. The acquisition of Liberty Global is still needed to
secure long term prospects but a credible (value-accretive) deal structure is
now within reach, which was not the case last summer. This is VOD's window
of opportunity, in our view.
We downgraded Vodafone to Hold in mid-2012 (at 180p) and have
maintained a strong preference for BT over Vodafone among our UK large
cap coverage in the post-VZW era so far. Now, with Vodafone’s operating and
strategic prospects improving, and an unjustified yield gap between the two
stocks (BT trades on Mar17 dividend yield of 3.2%), we are no longer
expressing a strong preference. We also remain buyers of BT, with a 515p PT.
Chart 1: Vodafone Tot. Return vs BT & Telco Sector, since we downgraded
Vodafone to Hold in 2012
Source: Jefferies, Factset
Macro/pricing backdrop more supportive
Vodafone has reported five successive quarters of improved organic service revenue
trends. The group returned to growth in 4Q14/15 and, by last quarter, 7 of 13 European
operations were also in positive territory. Absent the accounting effect of Spanish handset
finance adoption (which has no impact on cash intake), Europe as a whole should be back
to growth as soon as 4Q15/16. Management has sufficient visibility (and confidence) to
guide for revenue trends to strengthen in 2H15/16.
We believe that Vodafone is primarily benefitting from a more supportive demand
environment. Across key European markets, trends in household disposable income are
recovering quite strongly for the most part (Chart 1) but with much still to do to unwind
c.5 years of accumulated decline. Consumer confidence is recovering (Chart 2). Easing
macro conditions should credibly translate into some reduction in price sensitivity, in our
view. Customers may be marginally more willing to be traded up a bit in return for more
data, marginally less inclined to hunt for the very cheapest deal and/or care less about
network quality. We suspect that macro recovery may also be benefitting Enterprise (27%
of group service revenue in 1H15/16), where organic trends rebounded from -2.0% y/y in
2Q14/15 to +1.9% by 2Q15/16.
0
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300
Jun-12 Dec-12 Jun-13 Dec-13 Jun-14 Dec-14 Jun-15 Dec-15
Vodafone BT Telco Sector (SXKP)
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 4 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 1: Household disposable income (% growth y/y) –
return to growth should be reducing price sensitivity; yet
to recover to pre-recession levels
Source: OECD. Note: latest available consistent data 2014.
Chart 2: According to survey of 40k European Consumers
their sentiment around their financial situation over the
next 12 months is improving
Source: Jefferies, Eurostat, Qualitative survey run by Eurostat of 40k consumers across Europe on their view of their financial situation over the next 12m, results are published as the difference between positive and negative answers (in percentage points of total answers)
Mild price inflation is another tailwind, evident across all Vodafone’s key European
markets. Competition is typically still intense but is tending to focus on product (e.g.
TV/fibre/4G capability) rather than on cutting the airtime price. In Italy, the shift from one-
month to 28-day prepay bundles has been widely implemented (all except 3 Italia) whilst,
in Germany, Spain and the UK, data allocations may be edging up (a ‘cheap’ upgrade
facilitated by carrier aggregation and spectrum re-farming) but this is allowing monthly
fees to drift higher too. Indian pricing has been undermined by preparations for Reliance
Jio’s expected launch in April. Elsewhere however, conditions have become quite benign.
Looking ahead to 3Q15/16 results on 4 Feb, we forecast organic growth of +1.2% in
growth service revenues. This may be in-line with 2Q15/16 but asks some (temporary)
headwinds with -30bp drag from stiffer MTR cuts (South Africa, Turkey, Ireland, Portugal)
and with a +50bp boost to growth from carrier between 2Q and 3Q last year unlikely to
be repeated on that scale. The drag on service revenue trends from Spanish handset
financing will continue to increase until the y/y rate at which new customers are adopting
finance plans peaks; probably in 4Q15/16. Positives this quarter should be improving
trends on Italy (despite only partial benefit from bundle price hikes during 3Q), Germany
(further progress on re-pricing and channel repositioning) and Vodacom (close to clean
2Q15/16 growth rate of 5.8% despite c.90bp MTR drag).
Table 1: Vodafone organic service revenue growth (y/y) – we expect recent
strengthening trend to continue in 2H15/16 Financial y/e March 1Q 14/15 2Q 14/15 3Q 14/15 4Q 14/15 1Q 15/16 2Q 15/16 3Q 15/16e 4Q 15/16e
Group -4.2% -1.5% -0.4% 0.1% 0.8% 1.2% 1.2% 1.7%
Europe -8.2% -5.4% -3.5% -2.6% -1.5% -1.0% -0.8% -0.4%
Germany -5.4% -3.9% -1.8% -3.5% -1.2% -1.8% -1.0% -0.4%
Italy -16.8% -10.2% -8.0% -4.1% -2.0% -2.0% -1.4% -0.8%
UK -2.9% -3.3% -0.5% -0.6% 0.2% -0.5% -0.6% -0.4%
Spain -15.7% -9.8% -9.3% -7.8% -5.5% -2.0% -2.2% -2.3%
Other Europe -4.7% -1.9% -1.1% -0.9% 0.6% 1.5% 1.0% 1.3%
AMAP 4.5% 6.7% 5.7% 5.8% 6.1% 6.7% 6.2% 6.6%
India 10.2% 13.1% 14.7% 11.7% 6.9% 5.6% 4.3% 5.3%
Vodacom 0.0% 0.3% -3.9% -0.2% 4.5% 3.9% 5.5% 5.8%
Turkey 3.6% 11.0% 12.5% 13.0% 15.0% 20.2% 18.4% 18.4%
Egypt -0.7% 4.2% 4.1% 3.4% 6.1% 10.7% 6.0% 6.0%
Source: Jefferies estimates, company data KDG and Ono contributed to organic from 1Q15/16.
(6.0)
(5.0)
(4.0)
(3.0)
(2.0)
(1.0)
-
1.0
2.0
3.0
4.0
2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014
Ger Italy Spain UK EU
(30)
(25)
(20)
(15)
(10)
(5)
0
5
10
15
Feb
-12
Ap
r-1
2
Jun
-12
Au
g-1
2
Oct
-12
Dec-
12
Feb
-13
Ap
r-1
3
Jun
-13
Au
g-1
3
Oct
-13
Dec-
13
Feb
-14
Ap
r-1
4
Jun
-14
Au
g-1
4
Oct
-14
Dec-
14
Feb
-15
Ap
r-1
5
Jun
-15
Au
g-1
5
Oct
-15
Dec-
15
EU28 Av. Germany Spain Italy UK
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 5 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Underlying margin trends are improving
During much of Project Spring we have argued that improving quarterly revenue trends
were at least partly driven through heavy customer investment, pointing to weak margin
trends as evidence for this. But margin trends firmed up materially in 1H15/16 and this
seems at least partly attributable to recent subsidy reductions (notably in Spain and
Germany) and the mildly positive pricing trend we mentioned previously. The group
EBITDA margin declined -0.9pp in 1H14/15 and -0.5pp in 2H14/15, before edging up
+0.2pp in 1H15/16 (Table 2: Vodafone Margin Trends are Improving on an ‘Underlying’
Basis as well as in Headline Terms). As ever, the headline trend masks numerous inorganic
and temporary effects. Vodafone also reports the ‘organic’ basis which we show in the
table. But we have then gone on to adjust for four temporary factors, allowing us to
disentangle the ‘underlying’ margin trend, which tells us most about how the group’s
profitability is really developing.
Technology costs – A consequence of Project Spring is significant enlargement of
group infrastructure. By Mar 2016, Vodafone will have added c.45k new mobile
sites and 7.5m homes to NGN coverage. Management has guided that this will
cause technology cost to increase from £4.3bn in FY13/14 to £4.8bn pa post-Spring.
It has also disclosed that technology stepped up by ~£200m y/y in 2H14/15 and by
a further £229m in 1H15/16. We break down these movements in a second table
(Table 3), showing that rising technology cost was therefore a -90bp drag on group
margins in 2H14/15 and -110bp in 1H15/16. Looking ahead to 2H15/16, Vodafone
will be lapping the prior year step-up and guidance suggests that incremental cost
should be relatively minor. By FY16/17, there should be no further drag at all.
Spanish content costs – Vodafone has guided that spending on wholesale
content in Spain should increase by c.£50m sequentially between 1H and 2H15/16.
This is mostly related to football, which has been the most aggressive aspect of
competition among Spanish operators in the last six months (and one we discuss in
more detail in a later section). Vodafone has been buying football content since the
new season started last Aug, paying TEF for access to the domestic league/cup
competitions and Mediapro for Champions/Europa League and foreign domestic
leagues. We estimate that Vodafone’s spending will rise from c.€25m in 1H15/16 to
c.€110m in 2H15/16 and 1H16/17 before stepping up to c.€230m in 2H16/17.
UK ladder pricing – Vodafone recognised £86m of revenue/EBITDA in 1H15/16
when ladder pricing disputes were settled. This will have boosted the group margin
by 0.4pp (Table 3) but there will be no effect in future periods.
Spanish handset financing – In Nov 2014, Vodafone Spain shifted its
commercial model from a traditional approach (handsets bundled into airtime
contracts with subsidy recognised upfront) to a ‘financing’ model in which
customers contract separately for device and airtime with handset revenue and cost
both recognised upfront. Handset financing therefore has the effect of rebalancing
the distribution of EBITDA over a customer’s lifetime more towards the start. In the
12 months post-Nov 2014, EBITDA received a temporary boost since results
containing handset financing were lapping prior periods without it. Vodafone
disclosed an EBITDA benefit of c.£100m in 2H14/15 and we estimate that the y/y
benefit remained c.£80m in 1H15/16. The tailwind unwinds during 2H15/16.
Aggregating these non-recurring factors, we show in Table 2 that Vodafone’s ‘underlying’
margin decline improved from -2.1%/-1.0% in 1H/2H14/15 to around flat in 1H15/16. For
FY15/16 as a whole, EBITDA guidance is £11.7-12.0bn (based on specific FX
assumptions). Our own FY15/16 EBITDA forecast of £11.55bn equates to £11.85bn when
adjusted to match ‘guidance FX’.
The £11.55bn target implies the 2H15/16 margin coming in flat on a reported basis.
Whereas 1H15/16 margins benefitted from a 50bp inorganic boost (mostly related to first-
time consolidation of higher-margin Ono from Jul 2014), we don’t envisage any particular
M&A or currency effect on margins in 2H15/16.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 6 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
As Table 3 illustrates, we do envisage a combined 70bp headwind from higher
technology and content costs, partly offset by a 20bp tailwind from handset financing.
That leaves our flat headline margin expectation for 2H15/16 implying an ‘underlying’
50bp increase.
Looking ahead to FY16/17, our £12.2bn EBITDA target implies a +80bp increase in
Vodafone’s underlying margin. It could be argued that this is a fairly modest assumption
when set against the level of margin improvement observed recently. However, we are
mindful that improving revenue trends won’t necessarily drive sustained operating
leverage. In some countries, such as Italy, the prospects are good. But in Spain, revenue
growth may be capital-intensive to deliver (not least given the need to continue spending
on content), whilst emerging quad-play competition in the UK may lead Vodafone down
a similar route.
Regulated European roaming price cuts next year will affect ~€300m of group revenues of
which 70-80% drops down to EBITDA. However, we think the impact will be mitigated by
already strong take-up of Red tariffs (which incorporate European roaming into bundle
allowances) and optional surcharges for using domestic allowances abroad (which should
remain attractive even when the new regulated price-points come in).
Table 2: Vodafone Margin Trends are Improving on an ‘Underlying’ Basis as well as in Headline Terms 1H 13/14 2H 13/14 1H 14/15 2H 14/15 1H 15/16 2H 15/16e FY 13/14 FY 14/15 FY 15/16e FY 16/17e
Group financials - reported basis
Revenue (£m) 19,061 19,285 20,752 21,475 20,266 20,538 38,346 42,227 40,803 42,435
EBITDA 5,576 5,508 5,884 6,031 5,786 5,760 11,084 11,915 11,546 12,226
EBITDA margin 29.3% 28.6% 28.4% 28.1% 28.6% 28.0% 28.9% 28.2% 28.3% 28.8%
Y/Y Change in EBITDA margin (pp)
REPORTED basis (0.9) (0.7) (0.9) (0.5) 0.2 (0.0) (0.7) 0.1 0.5
Impact of FX/acquisitions/changes in perimeter (1.2) (1.0) (0.5) - (1.1) (0.2) (0.1)
ORGANIC basis (2.1) (1.5) (0.3) (0.0) (1.8) (0.2) 0.4
Specific (headwinds)/tailwinds in organic trend:
Higher technology costs (Spring infrastructure) - (0.9) (1.1) (0.3) (0.5) (0.7) -
Higher content costs in Spain - - (0.1) (0.4) - (0.2) (0.4)
One-off ladder pricing benefit in the UK - - 0.4 - - 0.2 -
Spanish handset financing (adopted Nov 2014) - 0.5 0.4 0.2 0.2 0.3 -
UNDERLYING change in margin (pp) (2.1) (1.0) 0.1 0.5 (1.6) 0.3 0.8
Source: Jefferies estimates, company data
Table 3: Vodafone’s disclosure allows us to model the impact of ‘non-recurring’ margin headwinds/tailwinds 1H 13/14 2H 13/14 1H 14/15 2H 14/15 1H 15/16 2H 15/16e FY 13/14 FY 14/15 FY 15/16e FY 16/17e
1. Group technology cost in period (£m) (2,150) (2,150) (2,150) (2,350) (2,379) (2,421) (4,300) (4,500) (4,800) (4,800)
Amount spend one year earlier (2,150) (2,150) (2,150) (2,150) (2,150) (2,350) (4,300) (4,500) (4,800)
Y/Y increase (Project Spring) - - - (200) (229) (71) (200) (300) -
Increase in cost as % group revenue 0.0% 0.0% 0.0% 0.9% 1.1% 0.3% 0.5% 0.7% 0.0%
2. Spanish content cost in period (£m) - - - - (16) (79) - - (96) (265)
Amount spend one year earlier - - - - - - - - (96)
Y/Y increase (Project Spring) - - - - (16) (79) - (96) (170)
Increase in cost as % group revenue 0.0% 0.0% 0.0% 0.0% 0.1% 0.4% 0.0% 0.2% 0.4%
3. UK ladder pricing benefit in period (£m) - - - - 86 - - - 86 -
Benefit as % group revenue 0.0% 0.0% 0.0% 0.0% 0.4% 0.0% 0.0% 0.0% 0.2% 0.0%
4. Spain handset financing benefit (£m) - - - 100 83 35 - 100 118 -
Benefit as % group revenue 0.0% 0.0% 0.0% 0.5% 0.4% 0.2% 0.0% 0.2% 0.3% 0.0%
Source: Jefferies estimates, company data
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 7 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Performance gap has narrowed
Whilst we think it is fair to attribute much of the recovery Vodafone’s revenue growth and
margin trends to the aforementioned macro / pricing tailwinds, we do recognise that
management is also making good progress narrowing the relative performance gap.
Looking back 12-18 months, Vodafone was lagging incumbent rivals across each of the
‘top 4’ European markets, losing both revenue and customer market share. As the two
charts below illustrate, relative performance has improved materially. Progress has been
consistent quarter-by-quarter, which lends support to the view that network
improvements linked to Project Spring have contributed.
An obvious blemish was the marketing errors made in Germany at the start of 2015. These
were still depressing results up to the 3Q15 stage. Looking beyond that temporary loss of
control, however, German mobile remains a material area of lingering underperformance.
Vodafone’s mobile service revenue growth lagged that of T-Mobile by –6.0pp/-2.2pp/-
2.4pp in 1Q-3Q15. Recent third party network surveys by independent magazines
(Connect 2015, Computer Bild 2015) indicate that historic quality issues have now been
largely addressed. There may be marketing weaknesses that recently-joined Vodafone
Germany CEO, Hannes Ametsreiter, is addressing as well. Closing the gap to T-Mobile will
be a crucial proving ground for him, in our view. The current situation looks as unjustified
as it is unacceptable.
Chart 3: Vodafone service revenue growth vs incumbent rivals (pp)
Source: Company data. Note: revenue perimeter is fixed + mobile less equipment; we display Vodafone y/y growth minus incumbent growth rate; in local currency; calendar quarters displayed; VOD Spain adjusted for handset financing adoption.
Chart 4: Vodafone contract net additions – delta vs incumbent rivals (‘000)
Source: Company data. Note: we display Vodafone quarterly mobile contract net additions less incumbent equivalent (in 000’s); adjusted for non-recurring items.
(12.0pp)
(10.0pp)
(8.0pp)
(6.0pp)
(4.0pp)
(2.0pp)
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2.0pp
4.0pp
6.0pp
3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Spain (TEF) Ger (TMOB) Italy (TI) UK (EE) UK (O2)
(700)
(600)
(500)
(400)
(300)
(200)
(100)
0
100
200
3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Spain (TEF) Ger (TMOB) Italy (TI) UK (EE) UK (O2)
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 8 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Reassurance on post-Spring capex discipline
In a 15 Oct note, we highlighted how capex ‘overspill’ beyond the scheduled completion
of Project Spring (Mar 2016) could impinge on dividend headroom. Capital intensity (ex-
spectrum) was 22% in FY14/15 and we forecast the same for FY15/16. Historically
Vodafone guided that this would drop back to 13-14% post-Spring. We pointed out that
an incremental capital intensity of 2pp equates to c.£700m higher capex. Net of tax
shield, this would reduce FCF by c.£500m. Given that a rebound in FCF back to at least
£4bn pa is necessary to re-establish comfortable dividend growth headroom, we
suggested any change in messaging on capex will need to be carefully communicated.
Since then Vodafone has provided a fairly high degree of reassurance. Whilst 13-14%
capital intensity was presented as a ‘medium term’ target at Nov’s interims, management
did specifically guide that FCF will cover the FY16/17 dividend (before spectrum but
inclusive of the negative working capital effect of tail-end Spring cash capex payments).
Moreover, the company said that covering next year’s dividend does not require capital
intensity to get all the way down to 14%; there is wiggle room.
It seems to us that there may still be circumstances in which Vodafone identifies projects
which may warrant accelerated investment. This might put upward pressure on capital
intensity. We can think, for example, of accelerating NGN deployments which may not
deliver much incremental revenue in the near term. The comfort we take from
management’s comments in Nov is that, having specifically reassured on dividend cover,
a base-line for future capital intensity expectations has been established such that any
new capital projects which are subsequently unveiled will need to be specific, time-
limited and carry a convincing purpose; i.e. not overspill.
Based on capex pre-spectrum of 14.9% revenue in FY16/17 and a £300m increase in
working capital (of which £200m related to capex payment timing), we estimate that an
11.8p dividend commitment would equate to 94% of headline FCF (Table 5). Two years
later, with capital intensity edging down to 14.0%, we model headline FCF recovering to
£4.3bn. This is basically back in-line with FY13/14 pre-Spring. With DPS still growing at
3% pa, the dividend pay-out drops back to 75-80%. A 1pp increase to our FY18/19
EBITDA margin adds c.£320m to headline FCF and lowers the pay-out ratio by ~6%.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 9 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 4: Vodafone FCF and dividend forecasts – FCF recovery to pre-Spring level eases pay-out to ~80% pre-spectrum y/e March FY 13/14 FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 19/20e FY 20/21e
EBITDA 11,084 11,915 11,546 12,226 12,680 13,074 13,409 13,750
Working capital 1,181 (883) (300) (100) (100) (100) (100) (100)
Cash generated by operations 12,265 11,032 11,246 12,126 12,580 12,974 13,309 13,650
Cash capital expenditure (5,857) (8,435) (8,655) (6,544) (6,273) (6,219) (6,317) (6,412)
o/w Cash expenditure (6,313) (9,197) (8,855) (6,344) (6,273) (6,219) (6,317) (6,412)
o/w Working capital movement in respect of capex 456 762 200 (200) - - - -
Disposal of property, plant and equipment 79 178 - - - - - -
Operating free cash flow 6,487 2,775 2,591 5,582 6,307 6,754 6,992 7,238
Taxation (3,449) (758) (979) (800) (743) (885) (985) (1,087)
Dividends from associates and investments 2,842 224 - - - - - -
Dividends paid to minority s/holders in subsidiaries (264) (246) (150) (158) (172) (184) (194) (205)
Interest received and paid (1,315) (995) (1,165) (1,291) (1,379) (1,373) (1,359) (1,353)
Headline FCF 4,301 1,000 297 3,333 4,013 4,313 4,454 4,593
Restructuring costs / other 92 88 (250) (150) (150) (150) (150) (150)
FCF after restructuring costs 4,393 1,088 47 3,183 3,863 4,163 4,304 4,443
Licence and spectrum payments (862) (443) (5,315) (424) (870) (446) (684) (934)
Acquisitions and disposals 27,372 (7,040) - - - - - -
Equity dividends paid (5,076) (2,927) (2,991) (3,055) (3,147) (3,241) (3,338) (3,438)
Special dividend (14,291) - - - - - - -
Purchase of treasury shares (1,033) - - - - - - -
Foreign exchange 2,423 895 - - - - - -
Income dividend from VZW 2,065 - - - - - - -
Other (3,337) (144) - - - - - -
Net debt decrease/(increase) 11,654 (8,571) (8,258) (296) (154) 476 281 71
Dividend Pay-Out
DPS 11.00p 11.22p 11.44p 11.79p 12.14p 12.51p 12.88p 13.27p
y/y growth 7.9% 2.0% 2.0% 3.0% 3.0% 3.0% 3.0% 3.0%
Closing share count (ex. Treasury) 26,438 26,439 26,439 26,439 26,439 26,439 26,439 26,439
Dividend commitment 2,908 2,966 3,026 3,117 3,210 3,306 3,406 3,508
Dividend commitment as % Headline FCF 68% 297% 1018% 94% 80% 77% 76% 76%
Source: Jefferies estimates, company data
Appealing yield support, no need to price in perfection
With dividends under pressure elsewhere in the FTSE, Vodafone’s prospective 5.4% yield
in FY16/17 should look attractive. Coverage ratios set out in the previous ratios admittedly
rely on a post-Spring FCF rebound that has yet to be demonstrated. But the direction of
travel is demonstrably positive with a more supportive macro/pricing backdrop already
translating into firmer growth and margin trends. With mobile consolidation deals
pending EU merger review in the UK and Italy, appetite for cutting prices (which it would
be controversial to raise later) should logically be rather limited. We forecast consolidated
balance sheet leverage for Vodafone of 2.5x by Mar 2017, edging lower at 0.1x p.a. That
seems fairly comfortable. Moreover, the scale of required spectrum payments should also
step down in the next few years. We model an average £0.7bn to be incurred over the
next 4 years, far below the £5.3bn due to be incurred this year. We have anticipated new
auctions in South Africa (FY16/17e) and India (FY17/18e). India payments tend to be
phased over 12 years, so we also model amounts still owed on 2014 and 2015 awards.
The relative resilience of Vodafone’s dividend prospects merits a tighter yield, in our view.
Without pricing in long-run perfection, we think it would be reasonable to conclude that
Vodafone could fairly trade on a yield of around 4.5%, for example. That would re-rate the
shares to 262p (20% upside vs. Friday’s close). By comparison BT's dividend yield is now
down at 3.2% FY16/17 on our estimates. BT’s interim results last Nov did elicit the sort of
revenue upgrade that we believe is now required to support a higher rating.
Vodafone also screens well against its peer group on EV multiples, trading on 6.5x/6.3x
EV/EBITDA in Mar 2017/18 (sector 6.8x/6.4x) and 14.0x/12.9x EV/OpFCF (13.9x/12.2x).
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 10 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
However, if we carve out Vodafone’s Indian assets, the group’s ‘stub’ rating looks even
cheaper. In the run-up to the potential Indian IPO later this year, this ‘stub’ approach to
assessing Vodafone’s trading multiples could become more relevant.
We value Vodafone’s Indian telecom carrier at a £10.7bn EV. This equates to 7.0x
EV/EBITDA in Mar 2017 and 6.5x Mar 2018.
Vodafone also owns a 42% equity stake in Indus Towers. Proportionate EBITDA from
Indus Towers was £285m in FY14/15 and £147m in 1H15/16. If we model £300m
for FY16/17 and put this on 18.0x (in-line with large cap tower peers globally), we
derive a proportionate EV of £5.4bn. The high rating clearly reflects the business’s
ability to carry leverage. With two other leading telecom carriers also Indus
shareholders (Bharti Airtel and Idea), sustained high tenancy rates should be
assured, and this deserves to be reflected in the Indus rating, in our view.
As far as we are aware, Indus Towers does not have a recently-disclosed net debt
position. However, two years ago Vodafone did report that combined net debt for
Indus Towers and its JV with Hutchison in Australia was £1.8bn (on a proportionate
basis) at Mar 2014. We understand that Vodafone’s Indian operations in aggregate
are carrying around £6bn of debt at present.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 11 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 5: Vodafone Group and Rump Trading Multiples y/e March FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 19/20e
Proportionate EV/EBITDA
Current share price (p) 219
Shares in issue (#m) 26,439 26,439 26,439 26,439 26,439
Current equity value (£m) 57,902 57,902 57,902 57,902 57,902
Prop Net Debt (£m) 31,975 32,285 32,414 31,923 31,626
NPV of Deferred Tax Asset (£m) (6,000) (6,000) (6,000) (6,000) (6,000)
VZ loan note (£m) (3,547) (3,547) (3,547) (3,547) (3,547)
Implied EV (£m) 80,330 80,639 80,769 80,277 79,981
EBITDA on Statutory Basis (£m) 11,546 12,226 12,680 13,074 13,409
less minority stakes:
India (£m) - - - -
Vodacom (£m) (509) (487) (522) (543) (565)
Egypt (£m) (240) (266) (281) (298) (316)
add non-controlled interests:
Kenya (£m) 216 248 275 298 311
Add Non-Consolidated JVs
Australia (£m) 218 240 264 277 277
Indus Towers (£m) 285 300 312 323 333
Proportionate EBITDA (£m) 11,516 12,261 12,728 13,130 13,449
Less restructuring costs (£m) 250 150 150 150 150
Adj proportionate EBITDA (£m) 11,766 12,411 12,878 13,280 13,599
Group EV/EBITDA 6.8x 6.5x 6.3x 6.0x 5.9x
Prop EV of Indian assets
Telecom services (100%-owned) 10,698 10,698 10,698 10,698 10,698
Indus Towers (42%-owned) 5,400 5,400 5,400 5,400 5,400
Rump EV ex-India 64,232 64,541 64,671 64,179 63,883
Prop EBITDA of Indian assets
Telecom services 1,356 1,528 1,653 1,783 1,889
Indus Towers 285 300 312 323 333
Rump proportionate EBITDA ex-India 9,875 10,432 10,763 11,024 11,227
Rump EV/EBITDA ex-India 6.5x 6.2x 6.0x 5.8x 5.7x
Proportionate EV/OpFCF
Implied EV (£m) 80,330 80,639 80,769 80,277 79,981
Capex on Statutory Basis (£m) 8,855 6,344 6,273 6,219 6,317
less minority stakes:
Vodacom (£m) (233) (150) (143) (149) (155)
Egypt (157) (127) (121) (106) (113)
add non-controlled interests:
Kenya (£m) 208 237 255 267 275
Add Non-Consolidated JVs
Australia (£m) 180 200 220 231 231
Indus Towers (£m) 168 151 136 129 127
Proportionate Capex (£m) 5,721 6,656 6,620 6,591 6,682
Adj proportionate OpFCF (£m) 6,044 5,755 6,258 6,689 6,917
Group EV/OpFCF 13.3x 14.0x 12.9x 12.0x 11.6x
Prop EV of Indian assets
Telecom services (100%-owned) 10,698 10,698 10,698 10,698 10,698
Indus Towers (42%-owned) 5,400 5,400 5,400 5,400 5,400
Rump EV ex-India 64,232 64,541 64,671 64,179 63,883
Prop Capex of Indian assets
Telecom services 921 690 630 613 620
Indus Towers 168 151 136 129 127
Rump proportionate Capex ex-India 4,632 5,814 5,854 5,849 5,935
Rump EV/OpFCF ex-India 13.9x 11.1x 11.0x 11.0x 10.8x
Source: Jefferies estimates
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 12 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Strategic shortcomings still cloud long-term prospects…
Post Project Spring, Vodafone will still have patchy convergence capabilities across the
Europe footprint. In Germany, a combination of owned-cable and wholesale fibre access
allows it to respond defensively against DTE’s Magenta EINS. In Italy, the economics for
unbundling street cabinets appear relatively favourable. More problematic is Spain where
Vodafone has partial cable coverage, whilst the outlines of forthcoming regulated access
to TEF fibre suggest a remedy that is intended to be temporary. Bitstream access (‘NEBA’)
is limited to rather slow products (up to 30Mbps), and still appears expensive. The UK
could be where Vodafone’s deficiencies become most apparent in the next 12-18 months.
In the likely event that Three’s merger with O2 is approved during 2Q16, Vodafone could
face a market polarised along convergent lines with BT/Sky/Virgin Media all benefitting
from quad-play capabilities and able to exercise pricing power on the their core products
to offset a potential tendency to discount ‘commodity’ services such as mobile.
Vodafone has spent heavily on content where forced to (e.g. Spain), but has appeared
keen to avoid going beyond the role of passive distributor wherever possible. A more
proactive approach from other incumbent competitors, leveraging content rights to
defend dominant market positions, would probably force Vodafone onto a treadmill of
rising content costs in more markets. DTE’s attitude may be tested in the upcoming
Bundesliga rights process (likely to take place around Apr 2016), whilst TI’s next strategic
plan will be its first with Vivendi wielding influence on the board.
…but LBTY solution may be coming closer within reach
Last summer we took the (then) anti-cons view that VOD is the more likely acquirer for
reasons of regulation ('European champions' ambition), capital structure and complexity
(VOD/LBTY: Europe In Charge, More Likely, 29 May 2015). VOD-LBTY valuations have
narrowed substantially. The sort of take-out offer that LBTY might feasibly accept was
value-destructive for VOD s/holders last summer but could be materially value-accretive
(to both sets of s/holders) now. We present detailed merger analysis in this note, also
describing how CWC could be dealt with. We describe a base case scenario in which
LBTYA would be taken out at $50/share (48% premium vs. 22 Jan close) through a
combination of equity (30% of ‘New Vodafone’ equity) and cash (£30bn, partly financed
by a £5bn rights issue), leaving post-debt leverage at a manageable 3.1x (dropping to
2.6x over three years). And the merged entity would continue to pay covered dividends:
11.79p in FY16/17 growing at 3% p.a. The significant LBTY bid premium we are
assuming, reflects our view that the stock’s recent very sharp de-rating reflects an
unjustified wave of negative sentiment – a ‘perfect storm of headwinds – not unlike that
which afflicted Vodafone following its full-year results last May.
Forecasts updated
We make extensive forecast revisions to reflect underlying factors as well as FX. Overall
changes are summarised in Table 6 and the specific impact of changes in FX is illustrated
in Table 7. Vodafone guidance is predicated on average FX rates for FY15/16 of £1:€1.37,
£1:INR 95.2 and £1:ZAR 18.1. Our modelling assumptions (which assume a continuation
of spot to year-end) are £1:€1.31, £1: 96.1 and £1:ZAR 23.8. Based on guidance FX, we
forecast FY15/16 EBITDA of £11.85bn (guidance £11.7-12.0bn) and FCF of £0.3bn
(guidance “positive”) on capex of £9.0bn (guidance £8.5-9.0bn).
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 13 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 6: Summary Changes to Estimates y/e March FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 15/16e FY 16/17e FY 17/18e FY 18/19e
NEW NEW NEW NEW OLD OLD OLD OLD % Chg % Chg % Chg % Chg
P&L
Group Revenue 40,803 42,435 43,487 44,553 40,883 41,854 42,921 43,960 -0.2% 1.4% 1.3% 1.4%
Group EBITDA 11,546 12,226 12,680 13,074 11,544 12,024 12,688 13,259 0.0% 1.7% -0.1% -1.4%
EBITDA margin 28.3% 28.8% 29.2% 29.3% 28.2% 28.7% 29.6% 30.2% 0.06pp 0.08pp (0.41pp) (0.82pp)
Depreciation and amortisation (8,429) (8,687) (8,595) (8,477) (8,602) (8,370) (8,392) (8,211) -2.0% 3.8% 2.4% 3.2%
Share of result in associates 28 63 72 79 50 65 80 88 -44.7% -2.6% -10.0% -10.7%
Group adjusted operating profit 3,144 3,602 4,157 4,675 2,992 3,719 4,376 5,136 5.1% -3.1% -5.0% -9.0%
Adjusted investment income and
financing costs
(1,265) (1,341) (1,404) (1,398) (1,482) (1,583) (1,650) (1,665) -14.6% -15.3% -14.9% -16.0%
Group adjusted profit before
taxation
1,880 2,261 2,753 3,277 1,510 2,136 2,726 3,471 24.5% 5.8% 1.0% -5.6%
Adjusted income tax expense (576) (610) (743) (885) (423) (598) (763) (972) 36.1% 2.1% -2.6% -9.0%
Non-controlling interests (185) (195) (213) (227) (233) (314) (392) (450) -20.4% -37.9% -45.7% -49.5%
Adjusted profit 1,118 1,455 1,797 2,165 854 1,224 1,571 2,049 30.9% 18.9% 14.4% 5.7%
Adjusted earnings per share 4.22p 5.50p 6.80p 8.19p 3.22p 4.62p 5.93p 7.73p 30.8% 19.2% 14.7% 5.9%
DPS 11.44p 11.79p 12.14p 12.51p 11.44p 11.79p 12.14p 12.51p 0.0% 0.0% 0.0% 0.0%
y/y Growth 2.0% 3.0% 3.0% 3.0% 2.0% 3.0% 3.0% 3.0% – – – –
Cash Flow Statement
EBITDA 11,546 12,226 12,680 13,074 11,544 12,024 12,688 13,259 0.0% 1.7% -0.1% -1.4%
Working capital (300) (100) (100) (100) 100 100 100 100 -400.0% -200.0% -200.0% -200.0%
Other (250) (150) (150) (150) (200) (200) (200) (200) 25.0% -25.0% -25.0% -25.0%
Cash generated by operations
(excluding restructuring costs)
11,246 12,126 12,580 12,974 11,444 11,924 12,588 13,159 -1.7% 1.7% -0.1% -1.4%
Cash capital expenditure (8,655) (6,544) (6,273) (6,219) (8,752) (7,414) (6,340) (6,270) -1.1% -11.7% -1.1% -0.8%
Operating free cash flow 2,591 5,582 6,307 6,754 2,691 4,510 6,248 6,889 -3.7% 23.8% 0.9% -2.0%
Taxation (979) (800) (743) (885) (719) (777) (763) (972) 36.1% 2.8% -2.6% -9.0%
Dividends received from associates and
investments
- - - - 50 50 50 50 -100.0% -100.0% -100.0% -100.0%
Dividends paid to non-controlling
shareholders in subsidiaries
(150) (158) (172) (184) (265) (290) (392) (450) -43.4% -45.6% -56.1% -59.2%
Interest received and paid (1,165) (1,291) (1,379) (1,373) (1,482) (1,583) (1,650) (1,665) -21.4% -18.4% -16.4% -17.5%
Free cash flow 297 3,333 4,013 4,313 276 1,910 3,492 3,852 7.7% 74.5% 14.9% 12.0%
Licence and spectrum payments (5,315) (424) (870) (446) (2,950) (1,318) (991) (637) 80.2% -67.8% -12.2% -30.1%
Equity dividends paid (2,991) (3,055) (3,147) (3,241) (2,993) (3,062) (3,154) (3,248) -0.1% -0.2% -0.2% -0.2%
Net debt decrease/(increase) (8,258) (296) (154) 476 (5,667) (2,470) (652) (34) 45.7% -88.0% -76.4% -1513.3%
Source: Jefferies estimates
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 14 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 7: FX impact on Changes to Estimates y/e March FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 15/16e FY 16/17e FY 17/18e FY 18/19e
OLD FX OLD FX OLD FX OLD FX NEW FX NEW FX NEW FX NEW FX VAR VAR VAR VAR
Group Revenue -0.3% 0.3% 0.2% 0.2% -0.2% 1.4% 1.3% 1.3% 0.15pp 1.11pp 1.11pp 1.12pp
Group EBITDA -0.1% 0.8% -0.9% -2.2% 0.0% 1.7% -0.1% -1.4% 0.08pp 0.86pp 0.82pp 0.81pp
EBITDA margin 0.08pp 0.16pp (0.32pp) (0.73pp) 0.06pp 0.08pp (0.40pp) (0.82pp)
Depreciation and amortisation -2.3% 2.0% 0.7% 1.5% -2.0% 3.8% 2.4% 3.2% 0.32pp 1.76pp 1.73pp 1.72pp
Share of result in associates -46.8% -10.1% -16.5% -16.9% -44.7% -2.6% -10.0% -10.7% 2.13pp 7.54pp 6.49pp 6.20pp
Group adjusted operating
profit
5.7% -2.1% -4.2% -8.4% 5.1% -3.1% -5.0% -9.0% (0.56pp) (1.07pp) (0.84pp) (0.54pp)
Adjusted investment income and
financing costs
-14.6% -15.3% -14.9% -16.0% -14.6% -15.3% -14.9% -16.0% (0.00pp) (0.00pp) (0.00pp) (0.00pp)
Group adjusted profit before
taxation
25.6% 7.7% 2.3% -4.8% 24.5% 5.8% 1.0% -5.6% (1.11pp) (1.86pp) (1.35pp) (0.79pp)
Adjusted income tax expense 37.5% 3.9% -1.3% -8.2% 36.1% 2.1% -2.6% -9.0% (1.39pp) (1.79pp) (1.30pp) (0.76pp)
Non-controlling interests -16.2% -24.8% -34.2% -38.9% -20.4% -37.9% -45.7% -49.5% (4.20pp) (13.10pp) (11.55pp) (10.64pp)
Adjusted profit 31.0% 17.9% 13.2% 4.3% 30.9% 18.9% 14.4% 5.7% (0.13pp) 1.00pp 1.18pp 1.36pp
Adjusted earnings per share 30.9% 18.2% 13.5% 4.5% 30.8% 19.2% 14.7% 5.9% (0.13pp) 1.00pp 1.18pp 1.36pp
DPS 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% 0.0% – – – –
Source: Jefferies estimates, company data
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 15 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Liberty Global Still Necessary to Secure Long-Term Prospects An important aspect of our previously cautious stance on VOD has been the view that
Project Spring may not deliver the integrated asset base capable of prevailing against
competitors that are not standing still. In a 5 Dec 2014 note, Vodafone –
‘Transformational’ M&A Necessary To Secure Long-Term Prospects, we argued that as
the reckoning on Project Spring draws near, management would need to justify
expectations of a return to top-line growth twinned with margin expansion. Failure to do
both would undermine conviction of a return to pricing power, the original premise of
£7bn Spring investment.
As we stand here now – less than three months from the scheduled completion of Project
Spring – VOD can already point to operating inflection across several countries. Guidance
for 2H15/16 envisages strengthening organic service revenue growth and a return to
EBITDA growth. We would argue that the group is benefitting more from environmental
factors (macro recovery, mild price inflation in some key European markets) than Spring-
driven gains, and that generally improving trends across the sector are evidence of this.
Nonetheless, progress is progress and the combination of better near-term growth
prospects allied to clear assurances from management about capex discipline post-Spring,
enhances VOD’s valuation appeal and reduces dividend forecast risk.
Discussions with LBTY between June and Sept last year revealed a welcome willingness on
VOD’s part to consider inorganic options that could put the group on a sustainably firmer
footing. The rationale for a combination with LBTY has not diminished, in our view.
Environmental factors which currently favour VOD are broadly not within its control,
and so cannot be counted on to persist for long, in our view.
We believe that VOD’s current collection of assets still leaves it poorly positioned to
compete against incumbent rivals in fixed-mobile convergence across much of
Europe. There is little observable competitive advantage in mobile.
Political appetite for infrastructure investment has translated into regulatory relief,
but mainly for incumbent fixed-line and arguably to the continuing detriment of
broadband challengers, such as VOD. In mobile, incremental market repair looks a
more distant prospect given Commissioner Vestager’s clearly-stated conviction that
future mergers be accompanied by remedies tough enough to sustain the existing
level of competition.
Certain incumbent rivals (TEF, BT, KPN and PT) have embraced TV/content as a
means of differentiating retail bundles, stemming churn and stimulating migration
to fibre. By contrast, VOD’s tactics remain reactive; spending heavily on content
where forced to (Spain), but still keen to avoid this elsewhere. VOD’s reported TV
base (9.3m end-Sept) consists almost entirely of cable TV customers inherited from
Ono/KDG. Competitor action (e.g. in Portugal/UK/Italy/Germany) may yet force
VOD to invest in content more widely. VOD may find that (as in Spain) delivering a
return to revenue growth is a capital-intensive process.
Speaking at the interims last Nov, Vittorio Colao asserted that improving operating results
are evidence of VOD’s plan ‘A’ working well. He conceded, however, that an integration
of assets with LBTY would accelerate the trend. Our view is that delaying transformational
M&A could store up pressure for VOD management. Preserving the status quo will permit
analysis of pay back on investments in Spring/cable, a combined outlay towards £20bn.
This might prove uncomfortable. We therefore believe that VOD management has a very
powerful incentive to seize the first window of opportunity to re-engage in discussions
with LBTY from a stronger relative bargaining position than it enjoyed in the aftermath of
disappointing German results last May. There is some urgency on VOD’s side to create the
appropriate conditions, in our view.
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
In our 29 May 2015 note, Vodafone/LBTY: Europe in Charge, More Likely, we analysed two
scenarios – VOD in charge vs. LBTY in charge. We concluded that VOD was the more likely
driver of a workable transaction for reasons of regulatory backdrop, capital structure and
relative deal complexity. A VOD acquisition of LBTY would be politically acceptable at the
EU level, if not outright supported. Alternative deal scenarios would amount to a US
takeover of important European telecom infrastructure, possibly leading to a break-up of
VOD’s pan-European portfolio and certainly undermining the (publicly-stated) political
ambition of creating ‘European champions’. Against this backdrop, we suggested that
even the historical objections of the German Federal Cartel Office to cable consolidation
might succumb to a feasible public policy objective of keeping VOD ‘in control’. At that
time - when investor confidence in VOD’s standalone prospects was arguably at record
lows – our view was distinctly non-consensual.
After VOD confirmed discussions with LBTY regarding asset swaps (but not a combination
of the two companies), we argued that VOD taking control of LBTY assets was still the
most likely deal scenario. In our 5 June note, Vodafone/LBTY: Asset Swaps? Tough, we
repeated our view that breaking up VOD’s portfolio runs counter to EU industrial policy,
adding that an asset swap would significantly lower potential synergies whilst
strengthening the role of national regulatory authorities in the merger review process.
This could substantially elevate regulatory risk in Germany, in our view.
Taking control of LBTY assets would strengthen VOD in several ways: (1) accelerating its
convergence strategy building on the enhancements delivered through Project Spring, (2)
opening up access to significant synergies, (3) facilitating a higher level of sustainable
balance sheet leverage through more robust growth prospects and reduced exposure to
sporadic mobile price wars, (4) securing material value accretion for shareholders by
attracting a higher trading multiple, and (5) improving dividend coverage. Value accretion
and dividend cover would clearly be sensitive to the precise deal terms.
Chart 5: Since Vodafone’s FY14/15 results in May, VOD has
outperformed LBTY by 28pp…
Source: Jefferies, Factset
Chart 6: …As a result LBTY’s 2016 EV/EBITDA has de-rated
by over one turn relative to VOD
Source: Jefferies, Factset
VOD has said that the discussions with LBTY last summer foundered on the issue of
valuing assets. In theory, the value gap should have narrowed a great deal (Chart 5 and
Chart 6). When we analysed a prospective VOD acquisition of LBTY in our 29 May note,
we concluded that, even taking consensus $25bn deal synergies at face value, a feasible
LBTY take-out value left VOD shareholders facing a value-destructive transaction. Now,
however, we can model scenarios which would be materially value-accretive for both sets
of shareholders, whilst keeping within credible parameters for critical deal variables such
as the proportion of consideration to be delivered in cash and financial leverage for the
merged entity. Significant synergies remain a prerequisite for a deal to be sufficiently
value-accretive and this continues to favour outright acquisition over asset swap scenarios
which, we believe, would not generate benefits on anything like the same scale.
60
70
80
90
100
110
120
VOD LN Share Price LBTY/A Share Price
7.0x 7.2x
9.5x
8.5x
6.5x
7.0x
7.5x
8.0x
8.5x
9.0x
9.5x
10.0x
VOD LN '16E EV/EBITDA LBTY/A '16E EV/EBITDA
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
The aforementioned public policy objection to breaking up VOD (a ‘European champion’
asset) also remains a major flaw facing any attempt at an asset swap, in our view.
Whilst press reports (e.g. Financial Times, 15 Dec 2015) have suggested that some
discussion between VOD and LBTY may have resumed, we question whether conditions
for agreement are yet in place.
The scale of LBTY’s recent sell-off puts it in a rather similar situation to the one that
VOD was in when John Malone’s ‘banana in a jar’ comments coincided with
investor disappointment at deteriorating VOD Germany results. In a sense, LBTY has
experienced a perfect storm of headwinds with operational pressure (most recently
in the NL but following on from poorly executed German price increases last year),
negative investor reaction to CWC deal structure and the thematic of avoiding
highly-levered stocks.
With LBTY strongly committed to completing the CWC purchase, in our view, it is
impractical for VOD to present a LBTY offer until early calendar 2Q.
Finally, to the extent that stock would be a significant component of the
consideration offered to LBTY, its management will need to take a view on the likely
trading multiple of an enlarged VOD. At this point, the standalone VOD still trades
on a modest 6.5x/6.3x EV/EBITDA in Mar17/18, fairly closely in-line with the sector
(6.8x/6.4x Dec16/17) and still well below LBTYA (on 8.3x/7.9x Dec16/17). VOD’s
current multiples suggest investors need convincing that better operating prospects
are more than just ‘easy’ comps and that reassurance about post-Spring capex
discipline can be relied on. From a VOD perspective then, it makes sense to leave
time for the shares to begin to price in improving trends in 3Q and 4Q15/16, and
hopefully a relatively positive outlook statement in May.
Beyond issues of valuation and consideration structure, any VOD approach can only be
successful, in our view, if Dr Malone is open to the prospects on conceding control and,
moreover, of LBTY shareholders assuming a minority position within a dividend-paying
entity. We have previously argued that Dr Malone’s comments to Bloomberg last May
could have implied a ‘opening of the door’, coming as they did around six months after
Charlie Bracken (EVP and Co-Chief Financial Officer) raised at an investor conference the
prospect of the group’s runway for growth slowing over the medium term. LBTY’s rating
has historically reflected the faith of its shareholders in the management team and their
operating model. It might be possible to shape the management team of a merged entity
to ensure that legacy LBTY feel comfortable retaining their exposure (even if the deal were
structured as a VOD acquisition of LBTY with no break-up of the VOD footprint) .
‘Base case’ LBTY acquisition scenario
Our base case is intended to replicate the sort of take-out offer that LBTY shareholders
might feasibly accept, and which VOD could afford to fund. We model a LBTYA take-out
price of $50/share, which is a 48% premium to last Friday’s close and back to the levels
achieved last summer. This reflects our view that LBTY’s current market valuation reflects a
degree of temporary distress, just as VOD’s did after disappointing results last May. LBTY
has been afflicted with a ‘perfect storm’ of headwinds relating to operating momentum,
reception of the complex CWC deal and the deteriorated credit environment. As
illustrated in Table 8 below, a $50/share LBTY take-out would equate to an EV of £64bn.
We also show the assumed split of consideration, with £30bn in cash and the remainder
in new VOD shares.
Take-out value of $50 per LBTYA
share implied £64bn LBTY EV
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
Table 8: LBTY Acquisition – Base Case Valuation
LBTY take-out valuation
LBTY take-out EV (£m) 63,718
Form of consideration (£m):
Cash 30,000
New Vodafone shares 33,718
FX (US$,£) 1.42
LBTY take-out EV ($m) 90,480
Net debt, Dec16e ($m) 43,692
Take-out equity value ($m) 46,788
Number of shares (post CWC closing, m) 969.5
Take-out price ($) 50.00
'Undisturbed' share price, 6/1/15 close ($) 40.78
Premium 23%
LBTY take-out multiples
LBTY take-out EV ($m) 90,480
Less CWC acquisition value (equity) (4,800)
Less other peripheral assets (1,021)
Less ITV stake and tax assets (4,002)
Plus valuation of minorities 1,773
Core EV – Liberty Global Group ($m) 82,430
Liberty Global Group EBITDA, Dec16e ($m) 8,341
Liberty Global Group EBITDA, Dec17e ($m) 8,652
LGG EV/EBITDA, Dec16e 9.9x
LGG EV/EBITDA, Dec17e 9.5x
Source: Jefferies estimates
LBTY’s planned acquisition of CWC (announced 17 Nov 2015) is due to close by the end
of 1Q 2016, subject to regulatory approvals. Having acquired CWC by issuing new
LBTYA/K shares, the asset will be transferred into LiLAC through the creation of an intra-
group stake of ‘Liberty Global Group’ in ‘LiLAC Group’.
We analysed the proposed deal structure in detail in our LBTY note, CWC: Who Gets What?
(19 Nov). There we concluded that LBTY value should not be affected if the market value
of LBTYA/K shares handed over to CWC shareholders is equal to the value of the newly-
created stake of ‘Liberty Global Group’ in ‘LiLAC Group’ and the eventual spin-out of that
stake allows LBTYA/K holders to realise this value. We showed that the parameters of the
central deal scenario put forward by LBTY appeared carefully chosen such that this
condition should be met.
Based on ‘undisturbed’ valuations for LiLAC and CWC (at the 13 Nov close) and assuming
an NPV of $1.6bn for net synergies (which equates to 6% of combined opex and capex for
the pro-forma LiLAC-CWC in 2018 on our estimates), LGG’s proposed 67.35% equity
stake in the enlarged LiLAC would be valued at $4.8bn. In arriving at this stake value we
also took into account the combined debt of LiLAC and CWC, and the 3p/share dividend
that CWC will pay to its shareholders at closing, in-line with the published deal terms. We
valued the minority interests in new LiLAC accordance with our existing LiLAC and CWC
valuations.
In modelling a prospective VOD acquisition of LBTY, we need to take a view as to whether
LBTY’s purchase of CWC would proceed and, if it did, what stage it would be at when
VOD assumes control of LBTY.
There is no logical reason why LBTY would wish to step away from closing the CWC
deal, in our view. Left to proceed, CWC completion would take place well in
advance of any VOD-LBTY transaction receiving a decision from anti-trust
authorities. LBTY management retains a fiduciary duty to LiLAC shareholders to
maximise its efforts to create value in LatAm, and the rationale for consolidating
CWC to create a more powerful vehicle for capturing growth in the region remains
firmly intact with or without any VOD process going on in parallel.
LBTY’s planned acquisition of CWC
adds a degree of complexity
VOD acquisition of LBTY assumed to
take place after CWC deal completes
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
On the VOD side, there is the potential issue of overpaying for LGG’s equity stake in
LiLAC. At our base case take-out of $55 per LBTYA share (with an assumed 5%
discount for LBTYK), the implicit value attached to the new LBTYA/K shares that were
created to fund the CWC purchase would materially exceed the $4.8bn value that
LBTY management seems to have associated with LGG’s equity stake in LiLAC when
it constructed the CWC deal parameters.
Based on ‘undisturbed’ LBTYA/K share prices (13 Nov close), CWC shareholders
were due to receive 31.65m new LBTYA shares (then valued at $45.35) and 77.49m
LBTYK shares (then valued at $43.58). It can be seen that the consideration in
LBTYA/K shares would have been worth a combined $4.8bn. (The additional
3p/share receivable by CWC shareholders in cash was already factored into new
LiLAC debt and hence reflected the value of LGG’s equity stake.)
Whilst there is a collar arrangement in the CWC deal to adjust exchange ratios, the
range is narrow ($44.51 to $46.65 for both A and K shares) and exchange ratios
operate in opposite directions in respect of the recommended offer (targeted at
independent CWC shareholders) and an alternative offer (targeted at two CWC
insiders, John Risley and Brendan Paddick). So if the LBTY-CWC deal were to
complete based on current LBTYA/K share prices (both well below the lower-end of
the collar), CWC shareholders in aggregate would still receive 31.65m LBTYA shares
and 77.49m LBTYK. And if LBTYA/K share prices were to appreciate above the top-
end of the collar prior to CWC closing - such as in the event that expectations of a
prospective offer from VOD build up – then the volume of new A and K shares
issued would still not come down to reflect the higher share prices.
At our base case take-out of $55.00/$52.50 per LBTYA/K share, VOD would be
valuing the LBTY equity issued to legacy CWC shareholders at $5.8bn. This is a full
$1bn (c.20%) above LBTY management’s valuation of the LiLAC stake that would
form part of the collection of assets VOD acquired. An interesting question is
whether VOD could claw back some value by, for example, asserting a higher level
of LGG ownership over LiLAC Group than LBTY management has previously
promised existing LiLAC shareholders. Our view, however, is that VOD would be
extremely unlikely to attempt any such thing given the high risk of legal challenge.
Considering all the above, we believe it is sensible to envisage that any prospective
acquisition of LBTY by VOD would take place after the LBTY-CWC transaction completes.
The next step in our VOD-LBTY modelling requires us to take a view about what happens
to the LatAm exposure. LBTY might conceivably spin out its LiLAC stake ahead of a
prospective acquisition by VOD. In this event, VOD would logically adjust its LBTY offer
price to reflect there being less value retained in the target. The most likely alternative, in
our view, is that the LiLAC stake would remain within LBTY. This is the scenario we have
assumed since it allows our estimate for the LBTYA/K take-out prices to be most readily
compared against current share prices (with both based on the same perimeter of assets).
In deriving a LBTY take-out EV in Table 9, we have incorporated our estimate of net debt
within ‘Liberty Global Group’ (the standalone collection of European assets), not
consolidated net debt for the LBTY group as a whole. Whilst legal title to all the
consolidated debt resides with LBTY, financial reporting has already associated a portion
of it to LiLAC. Moreover, LiLAC’s quoted equity value reflects this debt allocation. On the
basis that VOD has no apparent ambitions in LatAm, we believe it would be likely to spin
out the LiLAC stake inherited from LBTY in due course after taking control. (Indeed this
may well be a condition of any LBTY acquisition agreement, in our view, since John
Malone is unlikely to risk losing control of it by allowing VOD to sell out to a third party.)
Reflecting the likely divestment, we treat the equity interest in LiLAC as a peripheral asset.
We value it at the aforementioned $4.8bn in the expectation that this would be consistent
with LiLAC’s market value post spin-out.
We treat the inherited LiLAC stake as
a peripheral asset in New Vodafone
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
Moving further down Table 9, we calculate an implicit take-out EV for the core LGG assets
after adjusting for minorities, non-controlled stakes and other peripheral assets within the
LBTY group. We match this against our standalone EBITDA estimates for LGG (contained
in our published LBTY model) to derive the implied take-out multiples of 10.4x/10.0x
EV/EBITDA for Dec 2016/17.
In the next step, we have to assume a trading multiple for the post-merger entity, as this
determines the quantity of new VOD shares to be issued to LBTY shareholders.
We assume 7.5x Mar17 EV/EBITDA excluding synergies (Table 9).
For justification, we highlight that VOD traded on 6.5x as at 22 Jan close (219p share
price) whilst the LGG multiple implied by LBTY’s trading value on the same date
(with LBTYA at $33.70) was 8.3x.
In our pro-forma forecasts, legacy VOD assets contribute two-thirds of EBITDA in
FY16/17 (excluding integration benefits) with LGG assets delivering the rest.
Arithmetically this infers a blended multiple of 7.1x for ‘New Vodafone’.
However, the post-merger EBITDA multiple should benefit from a more efficient
capital structure (higher leverage adding value through a larger tax shield on
interest payments) and improved investor confidence beyond specific cost/capex
savings factored into synergy estimates (strategic overhangs of VOD’s sub-scale
fixed broadband/TV presence and LBTY’s lack of exposure in mobile being
significantly cleared up). Moreover, dividend cover is enhanced post-merger on our
estimates and this should also add value.
We accept, of course, that the nascent post-merger entity could suffer a period of
‘flow back’ with some LBTY shareholders not inclined to ride the transition to an
‘income’ stock having greatly reduced cable exposure. The scale of flow back might
feasibly depend on the level of involvement of key LBTY managers such as Mike Fries
in the post-merger entity, in our view.
A rating of 7.5x Mar17 EV/EBITDA (excluding synergies) would amount to 15.2x
Mar17 EV/OpFCF on our forecasts. The European sector currently trades on 6.8x
EV/EBITDA and 13.9x EV/OpFCF.
Moving down Table 9, we insert a £17.6bn (US$25bn) estimate for the NPV of net
synergies. We believe that synergies would be substantial given that the scale of
overlapping operations and the highly complementary nature of legacy VOD and legacy
LBTY assets/expertise. Rather than seek to forecast synergies in detail here, we have
benchmarked against the US$20-30bn consensus valuation that emerged in the days
following Dr Malone’s 19 May interview, where he suggested VOD would be a ‘great fit’.
After that we need to consider what rights issue would be needed to manage post-merger
net debt to an acceptable level. As we mentioned previously, our base case involves the
post-merger entity taking on £30bn of new debt to fund the cash element of
consideration paid to LBTY shareholders. Now we assume that VOD raises £5.2bn in a pre-
merger rights issue. This equates to a 1-for-10 issue carried out at a 10% discount to
VOD’s current share price. Net debt of the post-merger entity would be £56bn in Mar17
on this scenario, with net debt-to-EBITDA at 3.1x (as shown further down Table 9).
Next step is to derive an equity value of the post-merger entity from the previously-stated
assumptions about trading multiples, synergies and net debt. We factor in all the
peripheral assets, non-controlled stakes and minority interests that reside in both legacy
VOD and legacy LBTY. It is worth noting, for example, that one such peripheral asset is
equity stake in LiLAC (still valued at $4.8bn/£3.4bn). Treating LiLAC as peripheral is
consistent with our approach of only consolidating into our pro forma forecasts the
earnings and debt of the European (LGG) cable assets.
Post-merger entity should justify a
rating of 7.5x Mar17 EV/EBITDA
1-for-10 VOD rights issue at a 10%
discount caps post-merger leverage
at 3.1x Mar17
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 21 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
On this scenario, LBTY shareholders need to be issued with 12.4bn new VOD shares in
order that their aggregate consideration (cash + stock) matches to our targeted $55 LBTYA
take-out price (and $52.5 for LBTYK). LBTY shareholders would own nearly 30% of the
post-merger entity. This figure is mostly dictated by the assumed post-merger trading
multiple, with a mild additional sensitivity to the scale of VOD’s pre-merger rights issue.
Table 9: Capital Structure of New Vodafone
Multiples of New Vodafone
Adj. EV/EBITDA, FY16/17e 7.50
EBITDA before synergies, FY 16/17e (£m) 18,099
EV net of synergies (£m) 135,746
NPV of synergies (£m) 17,606
EV (£m) 153,352
Unadj. EV/EBITDA, FY16/17e 8.47
Implied EV of New Vodafone
EV (£m) 153,352
Net debt, Mar17e 55,596
Funding LBTY take-out 30,000
Legacy Vodafone 30,826
Rights issue (5,230)
Peripheral (assets)/liabilities - Legacy LBTY (5,669)
Less CWC acquisition value (3,380)
Less other peripheral assets (719)
Less ITV stake and tax assets (2,818)
Plus minorities 1,249
Peripheral (assets)/liabilities - Legacy Vodafone (9,547)
NPV of deferred tax asset (6,000)
VZ loan note (3,547)
Equity value (£m) 112,972
LBTY 33,718
Legacy Vodafone s/holders 79,254
Leverage of New Vodafone
Net debt-to-EBITDA, Mar17e 3.07
Net debt, Mar17e (£m) 55,596
Pro forma EBITDA, FY 16/17e (£m) 18,099
LBTY (CY16e) 5,874
Legacy Vodafone 12,226
Synergies/restructuring costs -
Ownership of New Vodafone
LBTY 29.8%
Legacy Vodafone s/holders 70.2%
Equity value (£m) 112,972
LBTY 33,718
Legacy Vodafone s/holders 79,254
Shares in issue (m) 41,470
Held by LBTY 12,377
Held by Legacy Vodafone s/holders 29,092
Source: Jefferies estimates
Next we show that VOD shareholders taking up their rights would achieve 28% value
accretion on our base case assumptions (Table 10). Each legacy share (worth 219p)
carries the right to subscribe to 0.1 new shares at an assumed 10% discount (costing
19.7p). With the post-merger entity trading on 7.5x Mar17 EV/EBITDA (ex-synergies) and
then additionally pricing in a $25bn NPV of net synergies, and with post-merger net debt
at the aforementioned £56bn Mar17, the post rights issue entitlement to 1.1p shares has a
value of 300p. This amounts to value creation of 61p for each legacy share.
Our base case offers material value accretion to both sets of legacy shareholders. We
showed in Table 8 that LBTYA shareholders are being taken out at a 48% premium, which
reflects our view that the stock’s current rating reflects a ‘perfect storm’ of headwinds in
recent weeks and that the impact on LBTY’s business of these in the long run has been
exaggerated.
Base case sees legacy LBTY s/holders
owning 30% of post-merger entity
Prospective 28% value accretion for
VOD shareholders (vs. 48% LBTYA)
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 22 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 10: Value Accretion for Vodafone Shareholders Taking Up Rights
Rights issue at Vodafone level
Pre-acqn rights issue at Vodafone (£m) 5,230
Current Vodafone share price (p) 219.0
Current shares in issue (m) 26,439
Right issue discount vs. current price -10%
Right issue price (p/share) 197.1
Shares issued (m) 2,653
Shares issued per current share 0.100
Value upside for Legacy Vodafone s/holders £m
Share of equity in merged entity 79,254
Less Vodafone rights issue (5,230)
Less current Vodafone market cap (57,901)
Net value upside 16,123
% upside 28%
Value upside per Legacy Vodafone share
Shares p
Legacy Vodafone share 1.000 219.0
Take up rights to new Vodafone shares 0.100 19.8
New Vodafone shares for each legacy share 1.100 299.8
Increase in value for each legacy share 61.0
Upside 28%
Source: Jefferies estimates
Sensitivity analysis
Our base case scenario is sensitive to several assumptions, notably: LBTY take-out price,
how consideration is paid (between cash and stock), synergy valuation and the trading
multiple of the post-merger entity. Now we show the impact of flexing these variables.
First, we look at how value accretion for legacy VOD shareholders varies with the LBTYA
take-out price and the post-merger trading multiple (Table 11). If we assume that the
NewCo would only trade on 7.3x Mar17 EV/EBITDA (excluding synergies), Vodafone
would need to limit the LBTYA take-out price to slightly below $44 in order to maintain
the level of value accretion for its own shareholders at 28%.
Table 11: Sensitivity of Value Accretion for current Vodafone shareholders to LBTY take-out price/NewCo multiple
LBTYA take-out price ($/share)
41.0 44.0 47.0 50.0 53.0 56.0 59.0
6.90 19% 16% 13% 9% 6% 2% -1%
'New Vodafone' trading multiple 7.10 26% 22% 19% 15% 12% 9% 5%
(EV/EBITDA Mar17e 7.30 32% 28% 25% 22% 18% 15% 11%
net of synergies) 7.50 38% 35% 31% 28% 24% 21% 18%
7.70 44% 41% 38% 34% 31% 27% 24%
7.90 51% 47% 44% 40% 37% 34% 30%
Source: Jefferies estimates. Note: NPV of net synergies fixed at £17.6bn ($25.0bn).
In the next example, we fix the post-merger trading multiple (at 7.5x Mar17 EV/EBITDA
before synergies) but now flex the NPV of net synergies alongside the LBTYA take-out
price (Table 12). Trimming the synergy NPV estimate by £2bn reduces value accretion for
VOD shareholders by 3%. To maintain value accretion at 32%, VOD would need to trim
the LBTYA take-out price from $50 to $47.
Table 12: Sensitivity of Value Accretion for current Vodafone shareholders to LBTY take-out price/Synergy NPV
LBTYA take-out price ($/share)
41.0 44.0 47.0 50.0 53.0 56.0 59.0
12.0 28% 25% 22% 18% 15% 11% 8%
Synergy NPV (£bn) 14.0 32% 28% 25% 22% 18% 15% 11%
(net of integration costs) 16.0 35% 32% 28% 25% 22% 18% 15%
17.6 38% 35% 31% 28% 24% 21% 18%
20.0 42% 39% 35% 32% 29% 25% 22%
22.0 46% 42% 39% 35% 32% 29% 25%
Source: Jefferies estimates
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 23 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Looking at things from a LBTYA perspective, we now look at how the implicit take-out
price varies with the amount of cash consideration offered by VOD and the size of the
equity stake that LBTY shareholders secure in the post-merger entity (Table 13). Were
VOD to offer ‘only’ £25bn in cash, for example, our analysis shows that LBTY should
demand an incremental 3pp equity stake in the NewCo to maintain a $50 take-out
valuation for the LBTYA shares.
Table 13: Sensitivity of LBTY take-out price ($) to Cash Consideration /Equity Stake in NewCo
Cash Component of LBTY Consideration (£bn)
22.5 25.0 27.5 30.0 32.5 35.0 37.5
23.8% 31.0 33.9 36.8 39.7 42.6 45.5 48.4
Stake of LBTY shareholders 26.8% 36.5 39.3 42.1 44.9 47.6 50.4 53.2
In ‘New Vodafone’ equity 29.8% 42.0 44.7 47.3 50.0 52.7 55.3 58.0
32.8% 47.5 50.0 52.6 55.1 57.7 60.2 62.8
35.8% 53.0 55.4 57.9 60.3 62.7 65.2 67.6
38.8% 58.5 60.8 63.1 65.4 67.7 70.1 72.4
Source: Jefferies estimates. Note: constant assumption that ‘New Vodafone’ trades on 7.5x EV/EBITDA Mar17e (net of synergies).
Finally, we adjust the previous analysis to consider how the LBTYA take-out price varies if
the NewCo trading multiple is flexed instead of the cash component of consideration
(Table 14). Suppose the LBTY management were only prepared to assume that the post-
merger entity would trade on 7.1x Mar17 EV/EBITDA (excluding synergies), the implicit
LBTYA take-out price would drop to slightly below $47. In order to restore the take-out
price to $50, LBTY should demand an incremental 2pp equity stake in the NewCo.
Table 14: Sensitivity of LBTY take-out price ($) to NewCo multiple/Equity Stake of LBTY shareholders
''New VOD' EV/EBITDA Mar17e (net of synergies)
6.9 7.1 7.3 7.5 7.7 7.9 8.1
25.8% 38.9 40.3 41.7 43.1 44.6 46.0 47.4
Stake of LBTY shareholders 27.8% 42.0 43.5 45.0 46.6 48.1 49.6 51.2
In ‘New Vodafone’ equity 29.8% 45.1 46.7 48.4 50.0 51.6 53.3 54.9
31.8% 48.2 49.9 51.7 53.4 55.2 56.9 58.7
33.8% 51.3 53.1 55.0 56.9 58.7 60.6 62.4
35.8% 54.4 56.3 58.3 60.3 62.3 64.2 66.2
Source: Jefferies estimates. Note: constant assumption that LBTY shareholders receive £30bn cash consideration as well as an equity stake in ‘New Vodafone’.
Pro forma ‘New Vodafone’ forecasts
In the following tables we present our pro-forma forecasts for the post-merger entity.
Deal structure reflects the base case scenario we have outlined. Standalone VOD reflects
the updated forecasts in this note. Our LBTY forecasts were updated in a recent 4 Dec
2015 note, Liberty Global – Making Sense of the Rollercoaster.
Incorporating LBTY has the effect of significantly strengthening VOD’s EBITDA
margin profile (Table 15). With top-line growth also modestly enhanced, we model
14% operating profit CAGR in the 4 years beyond FY16/17. Sharply increased net
debt and share count dilute EPS for the first 2 years, on our estimates. Year 3 is
breaks even with accretion from Year 4. Finally we note once again that pro-forma
forecasts incorporate only the European (LGG) perimeter within LBTY. The LatAm
exposure that we assume still resides in the LBTY group when VOD takes control (via
the 67% stake in LiLAC Group) is treated as peripheral on the basis that we would
expect VOD to spin it out to shareholders in due course.
There is a scarcity of UK stocks offering attractive dividend yields that are covered by
earnings. Accordingly, we see little reason why the post-merger entity should feel
under pressure to grow DPS aggressively despite its healthy net income prospects.
We forecast 3% DPS growth from FY16/17 (Table 16) which is in-line with the
assumption in our standalone VOD model. On this basis, the annual dividend
commitment of £4.9bn in FY16/17 equates to 91% of equity FCF (net of
restructuring costs and licences). As we show at the bottom of the table, dividend
cover improves progressively over the forecast period.
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
Pro-forma net debt-to-EBITDA is 3.1x in Mar17 but trends down by 0.15-0.2x in
every subsequent year (Chart 7). Set against the NewCo’s fairly robust EBITDA and
equity FCF prospects, we believe that base case leverage assumptions would not be
perceived as unrealistic although they probably are at the upper limit of what is
acceptable. Adding £5bn to the cash component of LBTY consideration (or,
alternatively, scaling down the rights issue) would add around 0.25x to leverage.
Dividend cover is not so sensitive the level of cash consideration, however. Whilst
increasing the cash paid to LBTY shareholder pushes up pro-forma interest expense
and squeezes equity FCF, it also results in fewer new VOD shares being issued,
which lowers the dividend commitment. The two effects closely offset (Chart 8).
Table 15: ‘New Vodafone’ pro forma P&L forecasts Year to 31 March (£m) FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 19/20e FY 20/21e
Revenues 42,227 40,803 54,569 56,007 57,562 59,171 60,812
Vodafone 42,227 40,803 42,435 43,487 44,553 45,612 46,683
Liberty Global Group 12,134 12,521 13,009 13,559 14,129
Synergies - - - - -
EBITDA 11,915 11,546 18,216 19,357 20,357 21,263 22,060
Vodafone 11,915 11,546 12,226 12,680 13,074 13,409 13,750
Liberty Global Group 5,874 6,093 6,348 6,686 7,142
Synergies 117 584 935 1,168 1,168
EBITDA margin 28.2% 28.3% 33.4% 34.6% 35.4% 35.9% 36.3%
Vodafone 28.2% 28.3% 28.8% 29.2% 29.3% 29.4% 29.5%
Liberty Global Group 48.4% 48.7% 48.8% 49.3% 50.5%
D&A (8,345) (8,429) (12,728) (12,541) (12,462) (12,601) (12,759)
Vodafone (8,345) (8,429) (8,687) (8,595) (8,477) (8,461) (8,436)
Liberty Global Group (4,158) (4,296) (4,511) (4,723) (4,907)
Synergies 117 350 526 584 584
Share of result in associates and JVs (63) 28 63 72 79 84 89
Vodafone (63) 28 63 72 79 84 89
Liberty Global Group - - - - -
Adj. operating profit 3,507 3,144 5,551 6,888 7,973 8,747 9,390
Net financing costs (1,290) (1,265) (2,390) (3,045) (3,035) (2,978) (2,901)
Income tax (569) (576) (958) (1,038) (1,333) (1,558) (1,752)
Non-controlled interests (177) (185) (195) (213) (227) (240) (254)
Net profit 1,471 1,118 2,008 2,593 3,378 3,971 4,483
Memo: Effective tax rate 25.7% 30.6% 30.3% 27.0% 27.0% 27.0% 27.0%
Shares in issue (m) 26,489 26,529 41,470 41,470 41,470 41,470 41,470
Adj. basic EPS (p) 5.55 4.22 4.84 6.25 8.14 9.58 10.81
Legacy Vodafone EPS 5.55 4.22 5.50 6.80 8.19 9.16 10.15
Accretion/(dilution) -12.0% -8.0% -0.5% 4.5% 6.5%
Source: Jefferies estimates, company data. Note: LBTY acquisition assumed to take place at the beginning of FY16/17.
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
Table 16: ‘New Vodafone’ pro forma FCF forecasts Year to 31 March (£m) FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e FY 19/20e FY 20/21e
EBITDA 11,915 11,546 18,216 19,357 20,357 21,263 22,060
Vodafone 11,915 11,546 12,226 12,680 13,074 13,409 13,750
Liberty Global Group 5,874 6,093 6,348 6,686 7,142
Synergies 117 584 935 1,168 1,168
Capex (ex-spectrum) (9,197) (8,855) (9,043) (8,875) (8,808) (8,869) (8,633)
Vodafone (9,197) (8,855) (6,344) (6,273) (6,219) (6,317) (6,412)
Liberty Global Group (2,816) (2,952) (3,114) (3,137) (2,804)
Synergies 117 350 526 584 584
Change in Working Capital (883) (300) (100) (100) (100) (100) (100)
Vodafone (883) (300) (100) (100) (100) (100) (100)
Liberty Global Group - - - - -
Restructuring Costs 88 (250) (840) (840) (256) (256) (256)
Vodafone 88 (250) (150) (150) (150) (150) (150)
Liberty Global Group (106) (106) (106) (106) (106)
VOD-LBTY integration costs (584) (584) - - -
Reversal of prior year capex accrued 762 200 (200) - - - -
Spectrum fees (443) (5,315) (424) (870) (446) (684) (934)
Divis paid to minority s/holders in subsidiaries (22) (150) (158) (172) (184) (194) (205)
Net interest payable (995) (1,165) (2,390) (3,045) (3,035) (2,978) (2,901)
Cash tax (758) (979) (958) (1,038) (1,333) (1,558) (1,752)
Other 178 - - - - - -
Equity Free Cash Flow (post spectrum fees) 645 (5,268) 4,103 4,418 6,196 6,625 7,280
Shares in issue (m) 26,489 26,529 41,470 41,470 41,470 41,470 41,470
EFCF per share (p) 2.43 (19.86) 9.89 10.65 14.94 15.97 17.55
Legacy Vodafone EFCF per share 2.43 (19.86) 10.43 11.32 14.06 13.69 13.27
Accretion/(dilution) nm -5% -6% 6% 17% 32%
Dividend per share (p) 11.22 11.44 11.79 12.14 12.51 12.88 13.27
y/y growth 3.0% 3.0% 3.0% 3.0% 3.0%
Annual dividend commitment 2,972 3,036 4,888 5,035 5,186 5,342 5,502
Divi % EFCF after restructuring/spectrum costs 119% 114% 84% 81% 76%
Divi % EFCF before restructuring/spectrum costs 91% 82% 75% 71% 65%
Source: Jefferies estimates, company data. Note: LBTY acquisition assumed to take place at the beginning of FY16/17.
Chart 7: Pro forma net debt-to-EBITDA is sensitive to the
amount of cash consideration paid to LBTY shareholders
Source: Jefferies estimates
Chart 8: Pro forma divi % of equity FCF is not sensitive to
a higher cash outlay (adds leverage, lowers share count)
Source: Jefferies estimates
2.00
2.20
2.40
2.60
2.80
3.00
3.20
3.40
3.60
Mar16e Mar17e Mar18e Mar19e Mar20e Mar21e
£35bn £30bn (base case) £25bn
60%
65%
70%
75%
80%
85%
90%
95%
100%
Mar17e Mar18e Mar19e Mar20e Mar21e
£35bn £30bn (base case) £25bn
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 26 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Spain: Capital-Intensive Growth Recovery Post Ono/Jazztel consolidations, a popular view was that Spain’s telecom market was
poised for vigorous recovery. There have been some positive developments. List prices are
edging higher in some segments, handset subsidies have been trimmed and, with macro
conditions less fraught, demand for higher-tier packages is recovering. But consolidated
Spain remains competitively tense with the interests of different operators far from
aligned. TEF logically defends its dominant position whilst VOD/ORA seek market share
gains to offset cost/investment pressures. Fibre and football were key battlegrounds last
year and 2016 is shaping up to be equally fierce. We are hopeful that VOD Spain will
return to revenue growth in FY16/17. But we expect this to be capital intensive, pulling
margins lower once the current tailwind from handset financing unwinds.
Vodafone has benefitted from easing macro/pricing pressure
Easing macro conditions seem to be translating into some reduction in price sensitivity
with consumers less aggressively seeking out the very cheapest/SIM-only offers. Market
pricing has been edging higher on products such as line rental and call set-up, whilst
mobile monthly fees are also edging higher (typically justified by larger data allocations
and inclusive roaming). In common with its competitors, VOD has been reducing subsidy
levels, starting with classic tariffs in early 2015, extending to Red since Oct. In Nov 2014,
VOD shifted to a handset financing model (described earlier in this report), following TEF
which adopted it in 2012. Adjusting for the associated reallocation of customer revenue
into equipment, service revenues returned to growth last quarter (Chart 9).
But top-line recovery is coming at the expense of profitability. Whilst VOD’s reported
EBITDA margins are up, this masks inorganic support from the acquisition of high-margin
Ono (in Jul 2014) and the adoption of handset financing. In Chart 10 below, we present
the organic margin trend adjusted for Ono (which VOD discloses) and then additionally
clean-up for the handset financing effect (using analysis previously discussed). We
estimate that VOD’s ‘clean’ margin trend was -7.7pp y/y in 2H14/15, with an abrupt
improvement to -0.8pp coming in 1H15/16. That step change looks closely linked to the
aforementioned change of subsidy policy in early 2015. VOD’s 1H15/16 results revealed
that customer costs in Spain fell to 25% revenues (from 32% in 1H14/15, 33% 1H13/14).
Chart 9: VOD Spain - service revenue growth
Source: Jefferies estimates, company data. Note: calendar qtrs.
Chart 10: VOD Spain – y/y change in EBITDA margin (pp)
Source: Jefferies estimates, company data
Content costs will weigh more heavily on margins going forward. VOD has guided to
c.£50m of incremental cost between 1H and 2H15/16 (equivalent to 3pp of revenue) as
football blends in for the full 6-month period. Next season, the wholesale cost of football
rights is set to rise steeply. This will reflect several factors: the higher value for domestic
LaLiga rights resulting from last Dec’s rights auction, the need to wholesale Mediapro
rights from TEF causing the CNMC’s unfavourable pricing formula to be applied and the
rights for distributing football content in bars which VOD and ORA have jointly acquired.
-18%
-16%
-14%
-12%
-10%
-8%
-6%
-4%
-2%
0%
2%
Reported basis Clean of handset financing
(10.0)
(8.0)
(6.0)
(4.0)
(2.0)
-
2.0
4.0
6.0
8.0
10.0
1H13/14 2H13/14 1H14/15 2H14/15 1H15/16
As reported Organic ex-Ono Clean of handset financing
Revenue stabilisation is proving
capital-intensive to deliver
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 27 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
It has been suggested that VOD could sidestep next year’s margin drag by choosing not
to distribute football content any longer. We don’t see that as a viable option. VOD
already lags well behind both TEF and ORA in terms of the penetration of convergent
bundles into its base. Quad-play is TEF’s mainstay proposition, accounting for two-thirds
of its fixed broadband base. ORA has 81% of FBB customers on (mostly) fixed-mobile
plans but is now promoting quad-play aggressively, building on the TV base acquired
through Jazztel. TEF has invested heavily to build up its TV capabilities (integrating the
low-margin DTS business and acquiring sports rights). But this is now sunk cost for TEF.
For VOD to retain broadband market share (including its acquired Ono base), we don’t
think it can afford to sidestep competing head-on against TEF across all segments.
Polarised market shares create contrasting incentives
As Chart 11 and Chart 12 illustrate, TEF has a very dominant position to protect. Simply
easing back into an oligopolistic mind set, scaling down defences and allowing market
share to be spread around would not be the logical strategy. Instead TEF rightly defends
its dominance by creating products that VOD (and other competitors) have difficulty in
replicating.
Pay TV has been a central focus for the last two years. TEF’s acquisition of DTS in
2Q15 raised its share of the Spanish pay TV market from ~40% to ~70%. Its decision
to embed Canal+ content into ‘Fusion’ quad-play bundles from July has forced VOD
and others to upgrade their own TV platforms and invest much more in content.
Upsell to FTTH has been another driver of competitive advantage for TEF. Free until
now of any compulsion to offer a wholesale broadband product exceeding 30Mbps
downlink, TEF has been incentivised to push retail fibre hard. New CNMC proposals
(pending EU approval) mandate wholesale access across parts of the country. But
VOD/ORA will still be obliged to deliver large-scale fibre deployments and must
therefore pursue retail scale aggressively to ensure an economic return.
Chart 11: Spain Revenue Mkt Shares – VOD 22%, TEF 53%
Source: Company Data, CNMC, Jefferies. Note: Vodafone reports service revs quarterly and total revs each half-year, so we have allocated ‘other’ revs from half-year results equally across the two quarters; Ono included in Vodafone from 3Q14; Jazztel included in Orange from 3Q15.
Chart 12: Spain EBITDA Mkt Shares – VOD 14%, TEF 71%
Source: Company Data, CNMC, Jefferies. Note: Data not available up to Sep 2015 as Orange only discloses Spain EBITDA at June/Dec; Vodafone 1H15 reflect to Mar-Sep 2015 results; Ono included in Vodafone from 2H14; Jazztel was still reported distinct from Orange in the 1H15 results.
Ono is only a partial defence against TEF’s FTTH push
VOD reports 31% of service revenues as coming from ‘fixed’ (2Q 15/16) and it holds a
~22% share of the retail fixed broadband market. During 2013 and 2014, VOD and fellow
ULL operators, ORA and Jazztel, were strong competitive forces, undercutting TEF’s Fusion
bundles to grow their combined market share from 31% to 36%. VOD acquired the Ono
cable business in Jul 2014; ORA acquired Jazztel in May 2015. Whilst retail momentum at
legacy Ono was not so robust, the pro-forma VOD-Ono still captured 29% of fixed
broadband net additions in 2013-14 vs 54% for ORA-Jazztel but just 12% at TEF.
52.2% 51.8% 51.1% 53.2% 51.6% 52.6%
15.8% 16.8% 16.7% 17.4% 16.6%21.3%
3.9% 4.2% 4.8% 5.3% 5.3%
17.6% 16.7% 16.7%20.8% 22.9% 22.1%
6.4% 6.2% 7.0%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q213 Q313 Q413 Q114 Q214 Q314 Q414 Q115 Q215 Q315
Telefonica Orange Jazztel Vodafone Ono Yoigo
66.4% 66.6% 66.6% 72.2% 71.0%
9.9% 11.8% 11.2%12.2% 11.5%
13.6% 11.8% 11.3%11.5% 13.8%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
H113 H213 H114 H214 H115
Telefonica Orange Jazztel Vodafone Ono Yoigo
Opting out of football is not an
option
TEF is logically inclined to protect its
dominant market position
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 28 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
But TEF has been fighting back during 2015 and this has blunted VOD’s growth. Despite
suffering a strike among installers in April/May (which caused its broadband base to
decline), TEF looks likely to limit retail broadband market share loss to c.100bp this year vs
-250bp in 2014 and -170bp in 2013 (Chart 14). According to monthly disclosure from
CNMC, TEF’s share of net broadband growth has recovered to 27% between Jan-Nov ex-
Apr/May.
Chart 13: Spain Broadband Net Adds (000)
Source: CNMC, Company data, Jefferies.
Chart 14: Spain Broadband Market Shares – TEF
Stabilising
Source: CNMC, Company data, Jefferies.
Accelerating FTTH momentum is the main driver of TEF’s retail recovery, in our view. The
gathering pace of DSL migration to FTTH migration (Chart 15), has been largely
stimulated by TEF’s strategy of promoting high-speed Fusion bundles. During 2Q15, TE
launched a project to triple retail broadband speeds (DSL from 10 to 30Mbps downlink,
FTTH from 100 to 300Mbps). From 8 May, TEF customers were able to order this upgrade
“at no extra cost” on an opt-in basis. The higher speeds were also made available to non-
Fusion subs (who had already borne a price increase in April) and the upgrades started to
be delivered in June. In practice, getting the higher speeds rolled out may take some time.
TEF has mentioned a programme of replacing ONTs at customer premises, although it
unclear how widespread this is and hence to what extent there is a bottleneck.
Nonetheless we expect 2016 to see TEF leveraging FTTH to become an even more forceful
retail competitor. Conditions will be tougher for VOD as a result, in our view. TEF has two
strong advantages.
1. TEF’s FTTH coverage is well ahead (13.4m homes passed end-3Q15 vs Vodafone
8.0m). The company has communicated FTTH coverage targets and, whilst
management has a tendency to threaten to go slower (as a bargaining chip in
regulatory lobbying), it seems very plausible that the lead over Vodafone will
continue to stretch.
2. VOD’s high-speed broadband capabilities are mostly reliant on Ono HFC. FTTH
coverage is reportedly just 1.2m homes at present and this has been achieved
through network-sharing with ORA in non-dense areas. In general, VOD’s HFC
service is inferior to TEF FTTH in terms of both downlink speeds and up/downlink
symmetry. According to CNMC disclosure, only 56% of HFC customers across the
Spanish market (not specifically at Ono) had access to downlink speeds at end-1Q15
(the last available data-point). Moreover, 37% received a maximum downlink speed
below 30Mbps. (Corresponding ratios for market FTTH, which also suffers from
aforementioned bottlenecks, were 75% and 22% respectively.)
(100)
(50)
0
50
100
150
200
250
300
Telefonica Orange Jazztel Vodafone Ono Other
48.9% 48.1% 46.6% 45.6% 44.6% 43.9%
12.5% 13.5% 14.4% 15.0% 15.5%28.0%
11.6% 11.8% 11.8% 11.9% 12.1%
7.0% 7.6% 8.3% 8.9%21.6% 21.9%
13.8% 12.9% 12.8% 12.6%
6.2% 6.2% 6.0% 6.1% 6.2% 6.2%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q313 Q114 Q314 Q115 Q315e
Telefonica Orange Jazztel Vodafone Ono Other
TEF has continuing advantages in the
superfast broadband segment
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 29 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 15: Spain BB Net Adds (000) - FTTH Dominating
Source: CNMC, Jefferies. Note: 2Q15 and 3Q15 are estimated from monthly CNMC disclosures which cover both periods. Earlier quarters taken from CNMC’s quarterly reports which contain adjustments vs previously reported monthly data. Our 2Q+3Q15 estimates are adjusted to facilitate LFL comparison.
Chart 16: Current Fibre Roll-Out Targets (m households)
Source: Company Data. Note: based on public statements and coverage results disclosed to date.
Dominance in FTTH has allowed TEF to capture the vast majority of market high-speed
broadband net additions in the last two years (Chart 17). As a result, its retail market share
in this segment has almost doubled to 39% (Chart 18). TEF’s gain is coming at the
expense of cable with the detrimental effect on VOD-Ono is most visible, although
regional cable operators across northern Spain have also struggled to add connections.
As a temporary solution to capture retail customers in areas where it intends to deploy
FTTH in the future, ORA has been adopting TEF’s up to 30Mbps bitstream access product
(NEBA) quite aggressively. The CNMC reports NEBA take-up of ~150k lines over the last
four quarters (19k/55k/42k/36k in 4Q14-3Q15) which would mean that NEBA represents
~3% of the Spanish high-speed broadband market now. Not a large figure in the overall
market context but potentially a major contributor to the market share that ORA-Jazztel
has gained: up from 5% at Dec 2014 to 11% by Sep 2015. Rather weak 1H15 margin
trends at ORA Spain (pre Jazztel consolidation) were attributed in part to NEBA adoption.
We are not aware that VOD has adopted NEBA on any material scale so far.
Chart 17: High-Speed BB Net Adds (000) – TEF Dominating,
VOD/ORA Uplifts Reflect Consolidation of Ono/Jazztel
Source: Company Data, CNMC, Jefferies.
Chart 18: High-Speed Broadband Market Share – Polarised
Trends with TEF Gaining, Cable Conceding
Source: Company Data, CNMC, Jefferies. Note: 2Q15 and 3Q15 estimated from monthly CNMC disclosures of fixed BB subs by operator and technology. CNMC figures for retail high-speed BB subs by operator not yet released for Jun/Sep 2015.
(400)
(300)
(200)
(100)
0
100
200
300
400
500
DSL FTTH HFC
11.512.5 13.4
14.0
17.0
20.0
5.25.4
10.0
14.0
3.6 4.0
0.9 1.0
7.9 7.9 8.08.9
0
5
10
15
20
Mar 2015 Jun 2015 Sep 2015 Dec 2015 Dec 2016 Dec 2017 Dec 2020
Telefonica Orange (inc. Jazztel)
Jazztel Orange
Vodafone-Ono
(50)
0
50
100
150
200
250
Q113 Q213 Q313 Q413 Q114 Q214
Q314 Q414 Q115 Q215 Q315e
16% 21% 25%32% 37% 39%
1% 3% 3%11%
3%4%
5% 6%
11%10%
9%
8%
6%5%
9%9%
12%
12%9%
8%
64% 60%53% 46%
40% 37%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q313 Q114 Q314 Q115 Q315e
Telefonica Orange Jazztel Euskatel Other Ono Vodafone
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 30 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Last Nov, the CNMC published draft proposals intended to enhance wholesale access.
In municipalities where FTTH and/or DOCSIS 3.0 cable has been deployed by at
least operators with a minimum overlapping coverage of 20%, TEF will not be
required to offer wholesale access to its own fibre. Based on June 2015 data, the
CNMC has defined 34 municipalities (26% POPs) as fulfilling these conditions. Still in
force in these areas is mandated access to TEF civil infrastructure (to facilitate
competing fibre deployments) and access to the copper network.
Elsewhere, TEF will be compelled to wholesale virtual unbundled access at prices
that allow efficient competitors to profitably replicate its own retail offers. Exact
price points for VULA will be negotiated once final approval of the CNMC proposals
has been received from the Spanish government (EC approval having been granted
last month).
For the NEBA Ethernet access product that TEF will continue to have to offer in the
regulated areas, the CNMC proposes removing the historic 30Mbps limit on the
range of products offered, and also lowering the variable (capacity-related)
component of the access fee. On average we believe that the blended cost of NEMA
access is around €25/month at present of which c.€5 is the variable part.
In the market for residential indirect access, the CNMC’s proposal distinguishes 703
zones where TEF’s retail broadband market share barely exceeds 31%. Such zones
account for a cumulative ~60% of Spanish broadband lines. Here, TEF will be
relieved of the obligation to provide wholesale indirect access (on both copper and
FTTH) within 6 months. Across the rest of the country, TEF must wholesale an
indirect copper access product. It must also offer wholesale indirect access to its
FTTH network except in areas which are ‘competitive’ from a fibre standpoint (i.e. at
least 3 FTTH/DOCSIS 3.0 networks offer minimum overlapping coverage of 20%).
Finally, in the enterprise segment the CNMC asserted that there is a lower level of
competition with TEF’s high market share not declining. Here it proposes that TEF
will be required to offer wholesale indirect access on copper and fibre immediately.
We anticipate Spanish government approval imminently and do not expect any material
amendments to the CNMC draft proposals before they become a definitive resolution.
There has been lobbying from all sides with TEF threatening to reduce its FTTH build
commitments and arguing (among other things) that the perimeter for defining
municipalities considered ‘competitive’ for fibre is too large (e.g. whole of Madrid rather
than specific districts). One amendment that should benefit TEF is updating the point in
time at which competitiveness is measured from June 2015 to Sept or Dec. This should
increase the number of municipalities in which TEF is freed from the obligation to provide
wholesale fibre access above the 34 cited in the draft.
What VOD and ORA are therefore likely to face is a regulatory framework which still does
not mandate FTTH wholesale and/or co-location from TEF across large parts of Spain. This
will oblige them to deploy new networks in parallel on a very large scale. Delivering an
economic return on those investments should logically incentivise an aggressive pursuit
of retail share. ORA has already set itself the ambitious target of “becoming the most
dynamic convergent player” and has extended its FTTH deployment target from 10m
households at end-2016 to 14m by end-2020. VOD has not yet published FTTH coverage
targets, beyond its shared roll-out agreement with ORA.
Symmetry of fibre broadband speeds between downlink and uplink is likely to become an
increasingly high-profile theme of marketing in 2016. This has historically been a theme of
Jazztel marketing, and one that ORA has promised to extend across the merged footprint.
TEF has promised to migrate to symmetric 30/30Mbps and 300/300Mbps products in
2016. Delivering symmetry will naturally be slowed a bit by the need to upgrade routers
but VOD faces a larger obstacle given its reliance on (fundamentally asymmetric) cable. In
Dec, VOD started migrating FTTH users to a 300/300Mbps service. But with VOD FTTH
covering only 1.2m homes, we suspect the number of customers involved is small.
New broadband access regulation
will come into force in 1H16
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 31 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Vodafone is also on the back foot in pay TV
Pay TV has become a core element of the proposition for Spanish telecom operators
addressing high-tier customers. It offers scope for product differentiation, upsell and
improved loyalty. But the addressable market of homes prepared to pay for TV seems to
be levelling out. Without growth in the perimeter, competition for existing pay TV homes
has become very intense, with operators spending more on content, whilst discounting
tariffs, shortening contract commitments and even (quite recently) subsidising TVs.
In its latest disclosures, the CNMC sizes the Spanish pay TV market at 5.35m homes (end-
June). This represents a modest 29% penetration rate. TEF (including DTS, which it
acquired in 2Q15) had 3.82m pay TV customers (71% market share). VOD was reported
having 816k (15% share). Market growth in Spain is coming predominantly from IPTV,
reflecting TEF’s dominance in selling quad-play. Cable is growing at a much slower rate.
Satellite TV is in accelerating decline, although the underlying rate may be exaggerated in
2Q15 figures by a clean-up of DTS customer reporting post the TEF takeover.
CNMC market data is not recent enough to capture the impact of discounted football
(and other premium) content in 2H15. Operator disclosures, however, suggest that VOD
faced stiffer competition from ORA and that TEF sustained its momentum.
ORA reported 78k TV net adds in 3Q15, growing its base by 57% over the 3-month
period. Essentially 3Q15 marked ORA’s launch as a meaningful player in Spanish
pay TV.
TEF reported own-branded TV net adds of 275k in 3Q15 (vs. 90k 2Q15, 370k 2Q15).
The 3Q15 figure included 120k satellite subs that we think were mostly DTS homes
migrating to TEF-branded Fusion+ packages. 93% of TEF’s TV base was attached to a
Fusion package by end-Sep For legacy DTS, TEF reported a 0.3m decline to 1.1m
subs in 3Q15. Aside from aforementioned internal brand migrations, the company
attributed this to more restrictive rules around how customers can be retained.
VOD disclosed on 4 Jan that it had reached 1m pay TV customers.
Table 17: Spanish Pay TV Subscribers (As Reported by Regulator and Companies) Subscribers (m) As Reported by CNMC As Reported by Operators
Q314 Q414 Q115 Q215 Q315 Q415 Q314 Q414 Q115 Q215 Q315 Q415
Movistar 1.58 1.88 2.14 3.82* NR NR 1.58 1.88 2.14 2.23 2.50 NR
Vodafone 0.78 0.78 0.79 0.82 NR NR NR NR NR NR NR c.1.0
Orange 0.09 0.11 0.13 0.14 NR NR 0.09 0.11 0.13 0.14 0.22 NR
DTS 1.67 1.70 1.74 0.00 NR NR 1.68 1.68 1.74 NR NR NR
Other 0.59 0.59 0.60 0.58 NR NR NR NR NR NR NR NR
Total 4.71 5.06 5.40 5.35 NR NR NR NR NR NR NR NR
Movistar 33.5% 37.2% 39.6% 71.3% NR NR
Vodafone 16.5% 15.5% 14.7% 15.2% NR NR
Orange 1.9% 2.2% 2.4% 2.6% NR NR
DTS 35.6% 33.5% 32.3% 0.0% NR NR
Other 12.6% 11.6% 11.0% 10.8% NR NR
Total 100.0% 100.0% 100.0% 100.0% NR NR
Source: Jefferies, company data, CNMC, *Includes DTS
TEF grabbed the role of dominant pay TV platform last year with its acquisition of DTS.
This allowed Canal+ content to be embedded into mainstream Fusion bundles from early
July. Merger remedies mandated by the CNMC require TEF to make available to rival
operators a wholesale offer of “premium channels”, but at a price that Vittorio Colao
described back in November 2015 as “obscene”.
VOD (and ORA) had little choice but to accept the terms but then sought to gain
competitive advantage with football, where rights for the current season are split between
TEF (domestic league and cup competitions) and Mediapro (European competitions and
foreign leagues). Whilst VOD, ORA and Telecable reached wholesale agreements with
Mediapro, TEF did not (until earlier this month). Before we discuss football in a bit more
detail, it is worth looking at VOD’s convergent offer.
VOD’s quad-play traction thus far
has centred on legacy Ono
customers, already taking cable TV
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 32 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
VOD launched its ‘Vodafone ONE’ range of quad-play bundles last April and reported
784k converged users by end-Sep. Marketing of Vodafone ONE is focused squarely on
legacy Ono cable areas (c.7.3m households). It is no coincidence that ONE take-up is
closely aligned to the last-reported TV base for Ono of 791k at end-Mar (after which the
CNMC disclosure switched to a merged ‘Vodafone’ basis for reporting TV customers).
In effect, Vodafone ONE is a repackaging of the bundles already widely adopted by legacy
Ono customers, but with mobile becoming a core feature (as opposed to an optional
one). VOD continues to use TiVo-powered set top boxes just as Ono had been doing since
Oct 2011 (pursuant to an agreement signed between Ono and TiVo in June 2010). Rather
than developing a new TV platform of its own, VOD has inherited Ono’s legacy product.
It is using this (successfully so far) to defend the acquired cable TV base, but does not yet
have a ‘Vodafone’ TV product for the c.11m homes that lie outside cable coverage.
But Ono’s 2010 agreements could be a constraint on VOD going forward:
The cable operator undertook to use TiVo software and Cisco set top box hardware
exclusively for its TV operations. VOD’s reluctance to extend the agreement,
allowing it to roll same TV product out nationwide suggests misgivings about
technical capabilities and/or cost, in our view.
But the status quo of not having a TV proposition for c.60% of Spanish homes
cannot be a sustainable, particularly when VOD does have widespread ULL coverage
and when DSL households (not merely FTTH ones) are proving to be enthusiastic
adopters of TEF quad-play.
Adding to the pressure, TEF’s acquisition of DTS brings satellite reach, ensuring that
its pay TV service really is now available with decent quality nationwide.
Whilst TEF is required to offer wholesale access to a selection of its “premium channels”,
the breadth of its content remains a significant competitive advantage, in our view.
Premium channels are defined as those offering exclusive content from the major
film studios as well as various defined sporting events including La Liga football,
Champions and Europa League football, Formula One and Moto GP.
Competing pay TV operators can access a maximum of 50% of these channels, with
freedom to cherry pick the ones they want. The wholesale price is supposed to allow
competitors to replicate an equivalent TEF retail package, with CNMC ensuring
compliance via a margin squeeze test.
Remedies are intended to last for 5 years (from the end-Apr 2015 closing of the DTS
acquisition), although they could be extended by a further 3 years.
VOD and ORA managements have both previously lobbied for more favourable remedies.
We don’t believe that they made any progress and there doesn’t appear to be much
continuing discussion. Heading into 2016 then, both operators are still in the position of
having to compete with TEF’s more comprehensive content offering as best they can.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 33 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 18: Spanish Convergence Tariffs Operator/Plan Contract
Length
(Months)
Mobile Data
Allowance
Voice SMS DSL/Fibre Speed
(Mbit/s)
Landline
Calls to Fixed
Landline
Calls to
Mobile
TV Channels Other Monthly
Integrated Fees
(Blended 12
month)
Movistar
Fusion Contigo
30Mbps
1 2.0 200 - Fibre 30 Unlimited - Yomvi 50.0
Fusion Contigo
300Mbps
1 2.0 200 - Fibre 300 Unlimited - Freeview HD,
including CANAL +
50 Yomvi 62.0
Fusion+ 30Mbps 1 3.0 Unlimited - Fibre 30 Unlimited 550 Family Movistar+ 50 Yomvi 68.0
Fusion+ 300Mbps 1 3.0 Unlimited - Fibre 300 Unlimited 550 Family Movistar+ 50 Yomvi 80.0
Fusion+ 30Mbps 1 3.0 Unlimited - Fibre 30 Unlimited 550 Family Movistar+ &
Futbol
50 Yomvi 93.0
Fusion+ 300Mbps 1 3.0 Unlimited - Fibre 300 Unlimited 550 Family Movistar+ &
Futbol
50 Yomvi 105.0
Orange
Canguro 12 1.5 150 - Fibre 300 Unlimited 1,000 No 50.8
Canguro 12 1.5 150 - Fibre 30 Unlimited 1,000 No 41.8
Canguro 12 3.0 Unlimited - Fibre 300 Unlimited 1,000 No 62.2
Canguro 12 3.0 Unlimited - Fibre 30 Unlimited 1,000 No 53.2
Canguro 12 10.0 Unlimited - Fibre 300 Unlimited 1,000 No 85.0
Canguro 12 10.0 Unlimited - Fibre 30 Unlimited 1,000 No 76.0
Canguro * 12 1.5 150 - Fibre 300 Unlimited 1,000 Yes 32 58.7
Canguro * 12 1.5 150 - Fibre 30 Unlimited 1,000 Yes 32 49.7
Canguro * 12 3.0 Unlimited - Fibre 300 Unlimited 1,000 Yes 32 70.1
Canguro * 12 3.0 Unlimited - Fibre 30 Unlimited 1,000 Yes 32 61.1
Canguro * 12 10.0 Unlimited - Fibre 300 Unlimited 1,000 Yes 32 92.9
Canguro * 12 10.0 Unlimited - Fibre 30 Unlimited 1,000 Yes 32 83.9
Vodafone
One 12 1.5 200 - Fibre 50 3,000 60 - 44.7
One 12 1.5 200 - Fibre 120 3,000 60 - 44.7
One 12 1.5 200 - Fibre 300 3,000 60 - 52.3
One 12 3.0 Unlimited Unlimited Fibre 50 3,000 60 - 56.1
One 12 3.0 Unlimited Unlimited Fibre 120 3,000 60 - 56.1
One 12 3.0 Unlimited Unlimited Fibre 300 3,000 60 - 63.7
One 12 1.5 200 - Fibre 50 3,000 60 TV Essential 70 53.7
One 12 1.5 200 - Fibre 120 3,000 60 TV Essential 70 53.7
One 12 1.5 200 - Fibre 300 3,000 60 TV Essential 70 61.3
One 12 3.0 Unlimited Unlimited Fibre 50 3,000 60 TV Essential 70 65.1
One 12 3.0 Unlimited Unlimited Fibre 120 3,000 60 TV Essential 70 65.1
One 12 3.0 Unlimited Unlimited Fibre 300 3,000 60 TV Essential 70 72.7
One 12 6.0 Unlimited Unlimited Fibre 50 3,000 60 TV Essential 70 67.5
One 12 6.0 Unlimited Unlimited Fibre 120 3,000 60 TV Essential 70 67.5
One 12 6.0 Unlimited Unlimited Fibre 300 3,000 60 TV Essential 70 75.1
One 12 10.0 Unlimited Unlimited Fibre 50 3,000 60 TV Essential 70 87.4
One 12 10.0 Unlimited Unlimited Fibre 120 3,000 60 TV Essential 70 95.0
One 12 10.0 Unlimited Unlimited Fibre 300 3,000 60 TV Essential 70 98.8
Source: Jefferies, company data * w/ Orange TV (Cinema and Series) & Football Paquette, Note: We have excluded Vodafone TV Extra and Total packages which cost an €6/12 per month for customers taking less than 3GB mobile packages or €0/€6 for customers taking greater than3GB. Football is an incremental €10 on all Vodafone packages
Football rights – opting out is not an option
TEF's weaker football offer was ruthlessly exploited by rivals during 2H15. Football was
the unique niche in which VOD’s content offering was superior to that of TEF. And VOD
discounted the retail price of football content to levels well below what was required to
break-even on its wholesale outlay.
Over the current season (Jul/Aug-May), we estimate that VOD is spending €160-170m on
football rights (Table 19). It is acquiring domestic rights from TEF and is also paying
Mediapro to distribute its BeIN Sports channels which carry UEFA Champions/UEFA
League and foreign domestic leagues. We understand that VOD has grown its base of
football TV subscribers to around 300k now (from zero last summer). Today’s base would
need to be spending c.€55/month plus VAT to cover VOD’s wholesale costs, on our
estimates. Our analysis in the table below is also fairly closely consistent with VOD’s
guidance that its wholesale cost will step up by c.£50m between 1H and 2H15/16.
Vodafone faces a c.£50m step up in
football cost between 1H and 2H this
year, and another £90-100m
increase between 2H15/16 and
2H16/17, on our estimates
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 34 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 19: Spanish football rights – access costs facing Vodafone will step up in 2H15/16 and then again next year Season: Aug 15 - Aug 16 - Aug 17 -
May 16 May 17 May 18
Costs incurred by rights holders (€m)
La Liga - TEF residential rights 600 250 250
La Liga - Mediapro residential rights - 633 633
La Liga - VOD/ORA bars rights - 300 300
UEFA - Mediapro rights 130 130 130
TOTAL 730 1,313 1,313
TEF payments for all Mediapro rights (€m) 800 800
Cost to Vodafone (€m)
Wholesale payments to TEF for La Liga residential rights 116 57 60
Wholesale payments to Mediapro for La Liga residential rights - - -
Payment to La Liga to own bar rights (50% share) - 150 150
Wholesale payments to Mediapro for UEFA rights 50 - -
Wholesale payments to TEF for BeIN Sports channels - 183 192
TOTAL 166 390 403
Year to 31 March: 2H14/15 1H15/16 2H15/16 1H16/17 2H16/17 1H17/18 2H17/18
Cost to Vodafone (€m)
Wholesale payments to TEF for La Liga residential rights - 13 77 37 34 23 36
Wholesale payments to Mediapro for La Liga residential rights - - - - - - -
Payment to La Liga to own bar rights (50% share) - - - 30 90 60 90
Wholesale payments to Mediapro for UEFA rights - 10 30 10 - - -
Wholesale payments to TEF for BeIN Sports channels - - - 37 110 75 115
TOTAL (€m) - 23 107 114 234 158 242
TOTAL (£m) - 16 78 87 178 121 184
half-on-half increase (£m) 16 62 8 92 (58) 63
year-on-year increase (£m) 78 70 100 34 6
Source: Jefferies estimates, company data
In reality, the revenue that can be directly attributed to football packages is likely to be still
a small fraction of that requirement.
Until mid-Oct, VOD bundled all this content together in a single ‘Paquete Futbol’ for
€6/month. It then raised the price to €16/month (but with 3 months free for new
customers). In mid-Dec, VOD segmented its football offers for the first time, whilst
keeping prices very competitive. Customers could select just the Canal+ football
channels (showing domestic La Liga and Copa del Rey) for €10/month or take
Canal+ and BeIN Sports channels together for €20/month.
VOD requires its football customers to also subscribe to a Vodafone ONE bundle. It
could then be argued that it is unfair to focus on direct football revenue since the
product is a loss-leader, aiming to deliver lasting benefit from market share growth
as well as cross-sell and upsell inside the existing base. But evidence from the early
part of the season would suggest that football did not attract many new customers.
In the Jul-Sept quarter, VOD added a net 28k fixed broadband subs whilst Vodafone
ONE subscriptions increased by half a million (from 291k to 784k). To the extent
that ONE take-up was mainly repackaging VOD’s offer to legacy Ono TV subs, it is
difficult to argue that football generated much incremental revenue.
ORA has been similarly aggressive, discounting its BeIN Sports package to €5/month
whilst access to domestic football was costing an additional €9.95/month. Coinciding
with the start of the Champions League competition in Sept, ORA even ran a week-long
promotion offering BeIN Sports for “free”. In mid-Aug, TEF responded by discounting its
Premium Extra TV package (the top-tier bundle which included domestic football, other
sport, premium movies and TV series) from €65/month to just €9.90/month. This
discount was available until year-end for subscribers taking a high-tier Fusion+ package
(up to 30Mbps DSL for €65/month or up to 300Mbps FTTH at €77/month).
We estimate that all this discounting activity left Spain with around 2.3m football
subscribers by end-2015. In spite of its inferior football offering, we believe that TEF has
around 1.8m of these, with VOD at c.300k.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 35 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
In late-Dec, TEF began to notify its Movistar+ Premium TV customers that discounts will
be cancelled, starting at the end of Jan. No new discount is being applied to soften the
impact of a €55 step-up in the monthly fee. Local press reports have estimated that c.370k
TEF customers are affected. Many of these customers will be free to spin down as TEF
reduced Fusion contract commitments from 24 months to 1 month in 2015. The CNMC’s
margin squeeze test may prevent TEF from maintaining lower retail price points in 2016.
We understand that the test is applied to the whole 12-month period (Jul 2015 – Jun
2016) during which TEF owns domestic football rights. The average gap between TEF’s
retail and wholesale prices for this content must be such that efficient competitors can
profitably replicate TEF’s retail offer. In spite of VOD’s public reservations about DTS
remedies, it could be that the margin squeeze test is about to become a real constraint on
TEF’s room for manoeuvre.
Perhaps mindful of this, VOD and ORA have continued to discount football aggressively
into the New Year. Between 7 Jan and 29 Feb, VOD is offering the complete package of
domestic and European football for €10/month until the end of the season (then
€25/month) plus three months of free access to Vodafone TV for new subscribers to ONE.
The football pack has a minimum contract commitment of just one month. ORA is
offering the domestic football at no extra cost until the end of the season (then
€9.95/month) for customers who take the “Cine y Series” bolt-on (€8-13/month) with
any of its quad-play bundles.
Mediapro football rights agreement is a logical response from TEF
Entering 2016, we would imagine that TEF felt the pressure building. It had much to
defend, not least c.70% domestic EBITDA market share and c.3.6m pay TV subs (end-
3Q15 incl. DTH) of which c.2.0m pay taking premium content. It faced VOD and ORA
willing to carry on discounting football heavily (despite limited customer intake), whilst
the regulatory margin squeeze control may have restricted TEF’s ability to discount in
response to VOD/ORA during 1H16. Moreover, the Dec 2015 auction of domestic football
rights for 3 seasons starting Aug 2016 had left Mediapro in possession of most of the
residential distribution rights (which are all owned by TEF in the current season).
TEF had three potential options for dealing with Mediapro, in our view:
1. It could have declined to negotiate with Mediapro, accepting a serious ongoing
impairment in its football line-up relative to VOD and ORA. That would have saved
cost but placed a permanent overhang over KPI and revenue prospects.
2. Alternatively, TEF could have negotiated a wholesale deal with Mediapro in parallel
to its rivals arranging their own deals as well. That would have meant that TEF at
least gained the same football line-up as VOD and ORA from next season. But those
rivals would likely have continued to discount the retail price of their football packs,
effectively treating their fixed wholesale cost as a sunk cost.
3. Instead TEF agreed a 3-year €2.4bn contract with Mediapro two weeks ago. The deal
is exclusive to the extent that Mediapro is prevented from wholesaling to anyone
else. Whether TEF can retain exclusive the right to distribute Mediapro’s BeIN Sports
channels exclusively is a matter of open discussion as we understand it with the
CNMC yet to reach a conclusion (contrary to some recent press reports).
Even if TEF is compelled to wholesale the BeIN Sports channels, access will be priced in
accordance with the CNMC’s ‘minimum guaranteed cost’ formula which is rather
unfavourable to operators both of VOD and ORA. We describe the pricing formula in
more detail below and laid out a framework for modelling VOD’s potential exposure to
football rights costs going forward. Before getting into that, we state upfront an
important conclusion that, in the likely event VOD continues with a complete line-up of
football content next year, we believe it will incur an overweight proportion of the overall
rights cost incurred by Spanish pay TV broadcasters relative to its rather small market
share of paying football TV subscribers.
TEF faced three options in dealing
with Mediapro; we think its decision
was the ‘least worst’ outcome
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 36 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
We estimate that VOD’s 300k football TV customers equates to c.13% market share (Table
19), whilst we believe its exposure to the €1.35bn market cost of rights next season
(residential plus bars) could be close 30%.
Higher wholesale pricing on football for its pay TV rivals should inject some discipline into
their retail pricing and allow TEF to restore a degree of control, in our view.
Chart 19: Football subs by operator, Dec 2015e (m)
Source: Jefferies estimates, company data
Chart 20: Net cost of football rights, 16/17 season (€m)
Source: Jefferies estimates. Note: we have assumed that Vodafone, Orange and Telecable continue to buy wholesale access to the full line up of football including BeIN Sports.
In the current season, TEF owns the rights for broadcasting domestic La Liga and Copa del
Rey football to residential and commercial customers in Spain. It is paying €600m for this
season (up from €588m the year before). Rights to broadcast the UEFA
Champions/Europa League competitions are held by Mediapro. It acquired these UEFA
rights during a sale process that was conducted in spring 2014. Mediapro’s UEFA rights
extend for the next two seasons as well. It is paying €130m per season. Mediapro also
holds the Spanish distribution rights for several foreign domestic football leagues
including those from England, Italy and Germany. We believe these are multi-year deals.
Last month the Spanish football authorities auctioned broadcast rights for La Liga and the
Copa del Rey for the three seasons beginning Aug 2016. Mediapro acquired 'Lot 6' to
carry eight (of the ten) La Liga games that are played each week. It is paying €633m per
season for this. TEF acquired ‘Lot 5’ which gives it the first pick game each week, quite a
valuable commodity in a league where interest is so concentrated into two teams (Real
Madrid and Barcelona). TEF is paying €250m p.a. VOD and ORA joined forces to acquire
the rights to broadcast domestic football into commercial premises, paying €300m p.a.
Remedies imposed by the CNMC as a condition of approving last year’s DTS acquisition
require TEF to make available a wholesale of “premium channels”. What constitutes
“premium” was defined by the CNMC, and includes the main football competitions.
Other pay TV operators can access up to 50% of TEF channels carrying premium content.
In the current season, TEF’s domestic football channels are therefore also available to TV
customers of VOD, ORA and Telecable. There is no regulated control around access to
content held by Mediapro. Since the start of this season, Mediapro has been wholesaling
its European rights to VOD, ORA and Telecable. However, no agreement was reached
with TEF until two weeks ago. This meant that TEF was commercially disadvantaged
relative to its rivals in the first half of the season, lacking UEFA Champions/League content.
The new agreement with Mediapro grants TEF immediate access to UEFA content when
those competitions get underway again in Feb. For the second half of the season (which
runs until May), its football line-up will be the same of those of VOD, ORA and Telecable.
1.80
0.30
0.15 0.05
TEF Vodafone Orange Telecable
628
390
296
36
TEF Vodafone Orange Telecable
Spanish football rights – who owns
what?
Who can show that?
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 37 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Who will be showing what next season is still an open discussion. TEF’s agreement with
Mediapro was structured so that the right being acquired is that to carry the BeIN Sports
channels, not the right to inject Mediapro content in TEF’s Canal+ channels. TEF argued
that the regulatory requirement to make a wholesale offer of premium channels only
extends to the TEF-owned channels. Unsurprisingly, TEF’s interpretation has been
challenged with no decision yet reached.
Should TEF’s position be upheld, it would clearly benefit from a very significant content
advantage, starting in Aug 2016. In football, TEF would only be obliged to make a
wholesale offer in respect of the ‘Lot 5’ domestic content (including just the first pick La
Liga game each week) for which it holds the rights directly.
In the (likely) event that TEF is compelled to wholesale BeIN Sports, the price of wholesale
access will be determined according to a formula set by the CNMC. Whilst the formula
does not build in a mark-up for TEF on its rights outlay (it merely seeks to recover a
proportion of that cost), it does provide a minimum guaranteed level of cost recovery.
We will set out how the CNMC formula works in the current football season before going
on to discuss how this could change from next year onwards, and concluding on how
much wholesale cost VOD is likely to incur. Our modelling is set out in Table 22.
Fixed element of wholesale cost – The CNMC formula takes 75% of TEF’s €600m
rights cost and multiplies this by the pay TV market share of the wholesale customer.
At the start of season (when the wholesale price was set), VOD’s pay TV market
share was 15% (using the CNMC’s own data). The regulator’s formula then takes a
further 20% of TEF’s rights cost and multiplies that by the fixed BB market share of
the wholesaler customer (22% for VOD when the price was set). Finally, the
remaining 5% of TEF’s rights cost is multiplied by the proportion of the country that
wholesale customer has the theoretical capability to reach with in pay TV. (Here we
estimate that the sum of VOD’s cable, ULL and FTTH coverage was 70%.) Adding all
three components together, we estimate a wholesale cost for VOD of €116m in the
current (15/16) season (half-way down Table 22).
Variable element of wholesale cost – We understand that there is contingency in the
CNMC model for wholesale customer to pay an incremental variable (per sub) fee
once their base of football subscribers passes a certain threshold. Thresholds for the
current season have not been publicly announced but we understand that none of
VOD, ORA or Telecable are close to theirs, perhaps explaining their willingness to
retail price football as if the costs were sunk. The existence of a variable cost
component allows TEF to better recover its cost outlay in the event that competitor
actions erode its own retail base very materially during the season.
Premium movies/entertainment is priced differently. We understand that the pricing
model here is entirely on a variable (per sub) basis.
Ahead of the next football season, the CNMC will presumably consider what adjustments
might be needed to its pricing formula. If, for example, one or more of TEF’s wholesale
customers were to drop out, we would expect TEF to be able to increase amounts
recovered from those wholesale customers that remain. The CNMC will take account of
movements in variables such as pay TV market share as well. We expect VOD’s pay TV
market share to be 20% in mid-2016, up 5pp y/y. We do not anticipate that the principal
of ‘minimum guaranteed cost’ recovery for TEF will be undermined. The TEF cost outlay
against which it will be recovering wholesale revenue climbs next season from €600m to
€1,050m. Accordingly, we expect the wholesale cost incurred by VOD to increase
materially (even if ORA and Telecable also continue to show the full football channel line-
up). In Table 22 we model VOD’s wholesale cost doubling to €240m next season, and
this excludes any variable cost (since we lack any visibility on that).
TEF has disclosed that it is recovering c.30% of this season’s football rights outlay through
wholesale revenue. Our modelling in the table below is fairly consistent with that (33%)
but we this proportion should reach c.40% next year.
CNMC pricing formula unfavourable
to TEF’s rivals, including VOD
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
On that basis, TEF would face a net outlay of £620-630m on our estimates, which could
be fully recovered through retail revenues if TEF were able to grow its retail football base
from 1.8m (our estimate) to 2.5m with those customers paying €25/month including
VAT. Set against the UK market where 8-9m households subscribe to one or more football
products and pay (on average) much more, this may not be such a challenging
requirement. For VOD, our point is that the Mediapro deal doesn’t leave TEF in a position
where full cost recovery is unrealistic.
For the rest of this season, VOD might consider that it may as well to continue to discount
football aggressively. But unless it makes clear to consumers that it is committed to still
showing the full line-up of football channels next season, it might find that consumers are
reluctant to sign up (bearing in mind that access to Vodafone football requires them to
contract to a Vodafone ONE bundle for 12 months).
Table 20: Distribution of Football Content in Spain Canal+ Partidazo (Abono
Fútbol 1)
Canal+ Liga (Abono Fútbol) Canal + Liga 2 Canal + Fútbol Bein Sports
La Liga Best match of each day 8 games per day - - -
Copa del Rey Best match of each day All matches (except FTA and
best match of the day)
- - -
Champions League - - - - All matches except FTA
Liga 2 - - All matches (11 per day) - -
Euro 2016 Qualifiers - - - Yes -
Intl. Domestic Comps - - - Yes Yes
Source: Jefferies, company data
Table 21: Football Offerings by Operator
Canal+ Partidazo (Abono
Fútbol 1)
Canal+ Liga (Abono
Fútbol)
Canal + Liga 2 Canal + Fútbol Bein Sports Price (€/pm)
Vodafone
Paquete Futbol Yes Yes No No Yes 10.00
Orange
Pack Futbol Yes Yes No No No 9.95
Bein Sports No No No No Yes 10.00
Pack Futbol+Bein Sports Yes Yes No No Yes 19.95
Movistar
FÚTBOL Yes Yes Yes Yes (Coming Soon) 25.00
Telecable
Bein Sports No No No No Yes 10.00
Abono Fútbol No Yes No No No 20.00
Abono Fútbol 1 Yes No No No No -
Abono Fútbol + Abono Fútbol 1 Yes Yes 10.00
Todo Futbol Yes Yes No No Yes 20.00
Source: Jefferies, company data, Note: Orange Pack Football is free until the end of the season for customers taking the Film and Series package (€7.95 pm)
VOD must clarify its commitment to
football to sustain growth
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 39 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 22: Modelling VOD football costs based on CNMC wholesale pricing formula Football season: 15/16 16/17 17/18
Cost of rights to TEF (EUR m) 600 1,050 1,050
Domestic rights held directly 600 250 250
Mediapro rights (domestic and UEFA competitions) - 800 800
Cost recovery based on:
Pay TV market share (% nationally) 75% 75% 75%
Fixed BB market share (% nationally) 20% 20% 20%
Reach to broadcast pay TV (% households) 5% 5% 5%
VODAFONE position at start of season
Pay TV market share (% nationally) 15% 20% 21%
Fixed BB market share (% nationally) 22% 22% 23%
Reach to broadcast pay TV (% households) 70% 73% 76%
ORANGE position at start of season
Pay TV market share (% nationally) 3% 5% 8%
Fixed BB market share (% nationally) 28% 30% 31%
Reach to broadcast pay TV (% households) 80% 80% 80%
TELECABLE position at start of season
Pay TV market share (% nationally) 2% 4% 5%
Fixed BB market share (% nationally) 1% 1% 1%
Reach to broadcast pay TV (% households) 3% 10% 20%
VODAFONE minimum guaranteed cost (EUR m) 116 240 253
comprising recovery linked to:
Pay TV market share 69 155 165
Fixed BB market share 26 47 47
Reach to broadcast pay TV 21 38 40
ORANGE minimum guaranteed cost (EUR m) 69 146 167
comprising recovery linked to:
Pay TV market share 12 42 60
Fixed BB market share 34 62 65
Reach to broadcast pay TV 24 42 42
TELECABLE minimum guaranteed cost (EUR m) 13 36 53
comprising recovery linked to:
Pay TV market share 11 28 40
Fixed BB market share 1 3 3
Reach to broadcast pay TV 1 5 11
TOTAL cost recovery for TEF via wholesale (EUR m) 198 422 473
From Vodafone 116 240 253
From Orange 69 146 167
From Telecable 13 36 53
% Gross rights outlay recovered by TEF via wholesale 33% 40% 45%
NET football rights outlay for TEF (EUR m) 402 628 577
Pay TV customers at start of season (m)
TEF (pro forma for DTS) 3.82 3.60 3.60
Vodafone 0.82 1.10 1.25
Orange 0.14 0.30 0.45
Telecable 0.13 0.20 0.30
Other 0.45 0.40 0.35
Market TOTAL 5.35 5.60 5.95
Fixed BB customers at start of season (m)
TEF 5.73 5.73 5.73
Vodafone 2.85 3.00 3.15
Orange 3.64 4.00 4.35
Telecable 0.16 0.18 0.20
Other 0.65 0.59 0.57
Market TOTAL 13.04 13.50 14.00
Source: Jefferies estimates, company data
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 40 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Italy: Market Repair most Evident; Operating Leverage in View Promising trends in both fixed and mobile, give us optimism around further market repair,
especially in a scenario where Italian consolidation is allowed to proceed. In mobile,
pricing remains stable and lower churn (across the market) suggests below the line
promotional activity is significantly reduced. In Fixed, Vodafone is showing signs of
commercial momentum but its market share remains low. Fibre remains underpenetrated
and with convergence still fairly nascent there is a significant opportunity for market
growth. Whilst VOD’s stable cost base means that as top line growth returns there could
be the potential for significant operating leverage. However Italy is not without risks for
Vodafone, Vivendi’s new involvement in TI could inject more commercial aggression into
the fixed/convergence markets. Vodafone insist that it sees itself as content distributor
(rather than owner) however a move by TI into exclusive content could leave Vodafone
unable to replicate its offer and its commercial momentum in fixed could quickly dry up.
Trend recovery in full swing
Chart 21 and Chart 22 show the scale and pace of Vodafone’s Italian recovery, which is
particularly impressive given Italy’s economy remains under pressure with CPI and wage
inflation still significantly below the FY13/14 levels.
Vodafone’s service revenue momentum slowed somewhat in Q2, -2.0% y/y (vs -2.0%/-
4.1% Q1/4Q) the result of lapping a Q2 14/15 prepaid price rise and enterprise roaming
price cuts but management seems confident that they will regain momentum going
forward. We believe this should be aided by the introduction of 28 day validity of prepaid
bundles (previously 1 month) which will have a full effect in Q3.
EBITDA returned to growth in H1 15/16 (+2.3% vs -7.2%/-21.7% H2/H1 14/15) as cost
efficiencies offset the continued revenue declines. Margins grew +0.4pp y/y to 34.1%
(H214/15 margins declined -1.3pp at 33.2%).
At present we believe Italy offers some of the best prospects for operating leverage in the
Vodafone group. Despite turning top line momentum around in recent quarters,
Vodafone has managed to keep cost under control through commercial and operating
cost efficiencies. The H1 15/16 cost base was c.9% lower than it was two years earlier. The
non-exclusive nature of content in Italy means that rights inflation which has been a
material source of EBITDA leakage other parts of Europe, namely Telefonica in Spain and
Sky/BT in the UK, currently looks unlikely. However should a Vivendi inspired TI feel the
need to follow a more aggressive strategy either through acquiring content directly or
acquiring Mediaset Premium this is likely to require a competitive response from
Vodafone and poses a significant risk to our positive view on operating leverage. We
should have more visibility on this risk in early 2016 when we begin to see how Vivendi is
influencing strategy in the Italian incumbent.
Following the introduction of 28 day
billing, we expect Vodafone to
regain its service revenue
momentum in Q3
Italy offers some of the best
prospects for operating leverage in
the group, however this would be at
risk should TI pursue a strategy of
acquiring exclusive content
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 41 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 21: Percentage Change in Vodafone Italy Opex
(y/y)
Source: Jefferies, company data
Chart 22: Annual Change in Revenue/EBITDA (€m)
Source: Jefferies, company data
Mobile: Promising trends, Revenue growth on the near-term horizon
Italian mobile remains relatively healthy. Stable pricing and diminished promotional
activity has enabled mobile service growth to recover back towards growth with
Vodafone’s trends no longer clearly lagging behind its peers (Chart 23). Promotional
activity in the market has significantly diminished, and as a result market churn and
number porting (Chart 24) has fallen significantly since their peak in 2013. In addition,
the overall market continues to contract as multi-sim ownership, which was driven by
historic promotional activity, becomes less of a feature.
Although still seeing market share compression, Vodafone is beginning to stabilise its
market position. In Q215/16 Vodafone only lost -0.2pp of share vs -0.9pp/-0.6pp in
Q1/Q2 14/15. Importantly for Vodafone the negative porting balance which has been a
persistent feature of the last few years reduced significantly to only -28k in the LTM to
September 2015.
Chart 23: Italian Mobile Service Revenues continue to
recover
Source: Jefferies estimates, Company data
Chart 24: Number Porting activity shows promotional
activity has reduced significantly
Source: Jefferies, AgCom, Net Ports in the four quarters between 2QX-3QX
-3.3%
0.5%
-4.4%
-8.2%
-4.9%
-1.2%-1.6%
0.4%
-9%
-8%
-7%
-6%
-5%
-4%
-3%
-2%
-1%
0%
1%
FY
10/11
FY
11/12
FY
12/13
FY
13/14
FY
14/15
FY
15/16e
FY
16/17e
FY
17/18e
y/y Change in Opex
(1,000)
(800)
(600)
(400)
(200)
0
200
FY
10/11
FY
11/12
FY
12/13
FY
13/14
FY
14/15
FY
15/16e
FY
16/17e
FY
17/18e
Δ in VOD IT Revenue Δ in VOD IT EBITDA
-25%
-20%
-15%
-10%
-5%
0%
5%
10%
Q4
12/13
Q1
13/14
Q2
13/14
Q3
13/14
Q4
13/14
Q1
14/15
Q2
14/15
Q3
14/15
Q4
14/15
Q1
15/16
Q2
15/16
Vodafone TI WIND 3
(1,500)
(1,000)
(500)
-
500
1,000
1,500
LTM to Q312 LTM to Q313 LTM to Q314 LTM to Q315
Telecom Italia Vodafone Wind Three MVNO
Italian mobile trends are positive
with service revenue heading back
towards growth and churn/porting
significantly diminished
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 42 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 25: Italy Mobile Market Share
Source: Jefferies estimates, AgCom, company data
Chart 26: Italy Mobile Market Net Adds
Source: Jefferies estimates, AgCom, company data
Mobile Pricing Environment - Stability remains a feature
Following the 2012-13 perfect storm of high legacy prices, economic recession and great
competition which resulted in severe tariff reductions, the Italian mobile market is now
characterised by a degree of stability. The only tariff adjustments we saw during 2015
were crucially defined by operators injecting more value into the bundles rather than
cutting prices (e.g. Three doubled its data allowance on its All-In tariffs from 2GB to 4GB/
TI increased headline prices by €1 whilst doubling data bundles but removing SMS).
In Italy the market remains predominantly prepaid with 80% of customers paying upfront
each month for a bundle of minutes, texts and data. During 2015, the three large
operators, TI/Vodafone and Wind, moved away from 1 month validity on these bundles
towards 28 day bundles (Wind made the move in March, Vodafone in July and TI in
August). This move effectively introduces an extra billing period into the year (or an
implicit 9% uplift in annual ARPU). While Vodafone has currently only implemented this
for new customers, TI/Wind also repriced its back book onto these tariffs. At 3Q15, TI
suggested that the move from 30 to 28 day billing (and removing SMS’ from the bundle)
had had a 10pp impact on ARPU. This therefore presents an incremental opportunity for
Vodafone going forward but Vodafone management has said they will see how the
market evolves before carrying out such an increase to the back book.
Whilst there remains a clear divide between the headline pricing of Vodafone/TI and
Wind/3, we show in Table 23 below that it appears this is slowly converging. This is a
positive development, however below the line activity remains. Vittorio Colao highlighted
at the Q2 results that there was very heavy promotional activity from one player in the
market. Given such activity accounted for c.30% of the market ads in FY14/15 it still poses
a significant risk to ARPU growth/stability, though clearly this risk should begin to diminish
with consolidation, should it happen.
32.8% 32.4% 32.3% 32.0% 32.3% 32.3%
30.1% 29.6% 28.9% 27.5% 26.9% 26.5%
22.6% 23.0% 23.0% 23.0% 22.9% 22.9%
9.8% 9.4% 10.2% 10.5% 10.9% 11.0%
4.7% 5.6% 5.6% 7.1% 7.0% 7.3%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q4 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Telecom Italia Vodafone Wind Three Others
(1,500)
(1,000)
(500)
0
500
1,000
Q4 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Telecom Italia Vodafone Wind Three Others
The three major operators have now
introduced 28 day (rather than 30
day) billing.
Pricing has remained stable with
operators injecting more value into
the bundles rather than cutting
prices
Vodafone headline prices look closer
aligned to peers, promotional
activity remains elevated but should
diminish with consolidation
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 43 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 23: Vodafone Headline Prices now closer aligned to peers Operator Package Price (EUR) Data (GB) Minutes SMS
Jan-15
Vodafone Scegli Voce €20 2.1 500 100
Telecom Italia Special Start €19 1 600 600
WIND All Inclusive+ €16 1 500 1000
3 All in 400 €10 2 400 400
Jul-15
Vodafone FlexiMaxi+ 1GB €20 2.1 1000 200
Telecom Italia Special Start €20 2 1000 n/a
WIND All Digital Mega €19 3 1000 Unlimited
3 All in 400 €10 2 400 400
Jan-16
Vodafone FlexiMaxi €24 3 400 100
Telecom Italia Special Start + 1Gb €24 3 1000 n/a
WIND All Inclusive + 2GB & 400mins €22 3 900 500
3 Full 400 €15 4 400 400
Source: Jefferies, company data, All data bundles now include 4G.
Italian Consolidation – in the balance, in our view
After failing to agree terms during an earlier attempt at consolidation in 2014, Vimplecom
and CK Hutchinson announced on 6th August 2015 that they had signed an agreement to
create a 50/50 Italian JV. The companies announced that the transaction was expected to
complete before August 2016 and create synergies in excess of NPV €5bn. At its
November 2015 results, Vimplecom management reiterated this and said they had
already begun the regulatory process and submitted the draft documents. However, we
are not aware that the final filing has been submitted and expect the companies to wait
until the EC has ruled on the UK merger of O2/Hutch which is expected by mid-2016. The
EC attitude to the UK deal will act as a harbinger for Wind-Hutch. Whether the Italian deal
happens, and whether it happens in a way that aids market repair, are both very much in
the balance, in our view.
The hard-line attitude adopted by the EC in the TeliaSonera and Telenor case in Denmark
has clearly made the market reconsider the likely success of any merger review process.
But in our view there are several differences between the Danish and Italian case:
The key difference between the Danish and Italian examples is the post-merger
market structure. Unlike Denmark where consolidation would have effectively
created a duopoly structure with two large players holding c.85% mobile
market share, the Italian deal is importantly putting together the 3rd/4th players
creating three broadly equally sized players (see Chart 27/Chart 28).
In addition, Enterprise mobile competition, an area of concern in the Danish deal
where the disparity in scale was apparently particularly acute, would likely be
bolstered under the Italian deal. As at present TI has c.60% market share in
Enterprise mobile with Vodafone c.30%, the combined Wind/3 merge co. would
still only have c.12% market share.
A feature of both the successful German deal and the unsuccessful Danish deal was the
concept of strengthening MVNOs. The Italian MVNO segment has been seeing share
gains vs the MNO’s, with positive subscriber growth compared with the negative
performance of its larger peers. However the segment remains relatively small (c.7% of
mobile subscribers) and really only operates at the value end of the market. The segment
is dominated by two operators, PosteMobile run by the Italian Post Office with 4% market
share (which up until a recent ruling by AgCom had benefited from the ability to only sell
its own sim cards in store, but now must offer sim cards from all the operators) and
Fastweb with 1% market share.
The two largest MVNOs would both be potential candidates for any remedies. Whilst both
would certainly be interested in making use of carved out wholesale capacity from the
merged networks (should that be the remedy). It’s not obvious that either would be able
to be as disruptive as the UK MVNO candidates Sky and TalkTalk.
We expect the UK merger ruling of
O2/Hutch to act as a harbinger for
the Italian deal
The deal is in the balance in our
view, but the key difference between
the Italian and Danish case is the
post-merger market structure
MVNO’s are likely to be a key focus
of the EC, the Italian MVNO segment
has c.7% market share but only
really operates at the value end of
the market
Fastweb & Postemobile would both
be potential candidates to receive
remedies, but it’s not clear if any
remedy would be as powerful in
Italy as it would be in the UK
VOD LN
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26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
Unlike the potential UK MVNO’s who both have significant and sticky customer bases to
sell their mobile product into and operate in a market moving rapidly towards quadplay.
The Italian market has been slower to adopt quadplay and with a predominantly prepaid
mobile base the penetration of high data users/4G handsets is likely to be lower especially
in the lower value segment.
For the deal to get approval, the EC must be convinced that the MVNOs are powerful
enough to replicate the role of an effective 4th competitor. This will be particularly key
given the market trend of stable/rising prices and the historic role that Wind/Hutch had in
controlling them. With network quality already generally high it’s not obvious that there is
an industrial policy objective of using consolidation to subsidise operator capex, so
competition will remain the EC’s focus. As a result, consolidation prospects remain in the
balance, in our view, and investors will be waiting keenly to see how the EC approach the
UK decision (currently expected April 22nd).
Chart 27: Italian Mobile Market Share (PF for
Consolidation, ex. MVNOs)
Source: Jefferies estimates, company data, 3Q15 data
Chart 28: Danish Mobile Market Share (PF for Consolidation
ex. MVNOs)
Source: Jefferies estimates, company data, 3Q15 data
Fixed Broadband – Fibre/Convergence present opportunities but also threats
The Italian broadband market has been growing 2-3% p.a. in recent years, driven largely
by Fastweb’s fibre deployments and attractive pricing. Despite this, Italy still lags the rest
of Europe in terms of fixed broadband. Penetration at 61% remains low compared with
the UK (88%), Germany (75%) and Spain (74%). Fibre deployment also remains behind
the curve; less than 50% of homes are passed by fibre compared to 68% for the EU-28 and
less than 10% of household use a connection in excess of 30 Mbps, compared to 26% for
the EU-28.
Like much of Europe, incumbent TI’s FBB subscribers account for almost half of the
broadband market. However, despite the polarised market structure, with penetration at
its current low levels, none of the operators are overly incentivised to be extremely price
aggressive. Since December 2012, TI has lost almost 5pp of FBB market share and with
still almost 50% of the market, TI is likely to continue to seep market share to the
competition if its product remains undifferentiated.
For Vodafone, with 34% share of FBB net adds over the last 8 quarters, it does appear to
have some commercial momentum, however it’s FBB market share remains low at 13%
(Chart 30). After a slow to start its own fibre build now seems to be making progress,
whilst recent wholesale access regulation means Vodafone should be able to replicate TI’s
fibre broadband footprint (however the relative economics of self-build vs wholesale is
unclear). However our concern is that Vodafone’s focus seemingly remains on pushing its
standalone broadband product as opposed to its convergent offer. As a result its
converged offer looks relatively weak compared with that of TI/Fastweb and leaves it
exposed should TI make a concerted push with its convergent tariffs.
35%
29%
37%
Telecom Italia Vodafone Merge Co.
38.5%
46.6%
14.9%
TDC Merge Co Three
Investors will be watching the UK
deal (Expected April 22nd) closely
Fibre coverage has been growing in
Italy but still lags behind the rest of
Europe
TI has been losing FBB market share
for some time, but with c.50% of
subscribers is likely to still cede
market share if its product remains
undifferentiated
Vodafone after a slow start appears
to be making progress in FBB, but its
focus on standalone BB rather than
convergence could leave it exposed
if TI makes a concerted push into
convergence
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 45 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Until now, TI has remained relatively docile keeping its commercial aggression to a
minimum. However with Vivendi now taking a more active role in TI’s strategy going
forward, the risk in our view is that this might prove the catalyst for more aggressive
commercial behaviour from TI. Should TI decide to head down the path of exclusive
content, that could leave Vodafone unable to compete and the commercial momentum in
fixed which Vodafone has benefitted from could dry up.
Chart 29: Italian Fixed Broadband Market Share
Source: Jefferies estimates, Agcom, company data
Chart 30: Italian Fixed Market Share Progression
Source: Jefferies estimates, Agcom, company data, VOD restated its broadband base by -123k in Q3 14/15 excluding this VOD would have gained c.0.7pp, Growth in “Others” is largely due to FWA.
Content Strategy – Vivendi backed TI could pose a problem
Thus far, none of the Italian telecoms operators have adopted a strategy of differentiating
around exclusive content. Instead key TV rights are owned by one of the two leading
pure-play pay TV operators: Sky Italia (present in 19% of TV homes) and Mediaset
Premium (7%). Both Sky and Mediaset have non-exclusive deals with telecom operators.
As in other European markets, recent content auctions have been fierce affairs with
Mediaset bidding aggressively to win the Champions League content and seeing 37%
rights inflation for its Serie A rights. At present, Sky owns the rights to show all the Serie A
games, Formula 1, Moto GP and exclusive movie deals with the majority of the large
Hollywood studios (Disney/Fox/Paramount and Sony). Whilst Mediaset has the rights to
show Champions League football and the 248 Serie A games involving the top 8 teams in
the league (including AC Milan, Juventus, Inter Milan, Roma and Napoli).
The OTT segment is still relatively nascent in Italy. Whilst Sky/Mediaset and TI all have OTT
offerings, Amazon Prime has yet to launch and Netflix only launched this autumn. As a
result, it is too early to say if the OTT segment will have a truly disruptive influence on the
content market. However Netflix has already begun to acquire content to strengthen its
Italian proposition. In October, Il Sole 24 Ore reported that Netflix had managed to
reacquire the rights to the Netflix Original series “Orange is the New Black” which it had
wholesaled to Mediaset prior to its Italian launch and according to an article in La
Republica it’s also acquired the IPTV rights to 18 RAI movies. Sky Italia still owns the rights
to the successful Netflix franchise “House of Cards” and it is unclear whether Netflix has
tried to reacquire these rights.
Italian Pay TV penetration is low compared to European peers, with only around 33% of
homes taking a digital pay TV product (vs 54% in the UK and 64% in France) and this
presents an opportunity for the fixed operators as the market slowly moves towards
quadplay. TI believe that out of the 14m customers who take fixed broadband in the
market c.7m already take Pay TV but the remaining 7m could be interested in some form
of Pay TV and also representing potential candidates to cross sell fibre to (Chart 31).
50% 49% 49% 49% 48% 47%
16% 16% 16% 15% 15% 15%
13% 14% 14% 14% 15% 15%
12% 12% 13% 13% 12% 13%
8% 9% 9% 9% 10% 10%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Telecom Italia Wind Fastweb Vodafone Others
(6.0pp)
(4.0pp)
(2.0pp)
-
2.0pp
4.0pp
Q4
11/12
Q2
12/13
Q4
12/13
Q2
13/14
Q4
13/14
Q2
14/15
Q4
14/15
Q2
15/16
Telecom Italia Wind Fastweb
Vodafone Others
TI has until now kept commercial
aggression to a minimum but with
Vivendi now taking a more active
role in strategy this could all change
Content remains non-exclusive in
Italy
Key content is owned by the two
pure play Pay-TV operators Sky IT
and Mediaset Premium
OTT segment is nascent. With NFLX
only launching this autumn it is too
early to say how this will impact the
market for content in Italy
Pay TV penetration is low in Italy, but
TI believe there are c.7m customers
in Italy who would be interested in
some form of Pay TV.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 46 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Each of the fixed line operators provides some sort of media content with their fixed
offering. For Telecom Italia offering a wide array of content is a key pillar of their strategy
to cross sell fibre and make the customers more sticky. For Vodafone however, it appears
less core and as a result Vodafone’s content offering is noticeably less extensive than
either Telecom Italia or Fastweb. At present, Vodafone only offer its fixed customers the
option to take Sky Online (although it does have Netflix bundled as part of some of its
mobile tariffs). Sky Online (normally €9.99pm) is included free for 6 months for customers
taking their €25pm ADSL package or 12 months for those taking €25pm fibre offer.
Chart 31: Telecom Italia Plan for Italian Market
Source: Jefferies estimates, company data
Chart 32: Telecom Italia Hub Approach
Source: Jefferies, company data
Telecom Italia has the most extensive content offering in the market. Rather than offering
one content platform, TI have opted for a ‘hub approach’ owning a small quantity of
proprietary content and acting as a hub for other service providers. Customers have a
choice of,
TIMVISION, TI’s in-house introductory level offer, offering over 6,000 titles including
movies, series, TV shows, cartoons, music and documentaries.
Netflix, integrated into the TIM Vision set-top box. Customers are billed for Netflix as
part of their TIM invoice, however there is no discount to the stand alone Netflix prices.
Mediaset Premium, customers are able to either take Mediaset Premium’s DTT offer
or take Mediaset Premium Online (via the TIM Vision box). Customers are able to pay for
Mediaset via their TIM bill and are offered “exclusive TIM prices”.
Sky, Telecom Italia customers are able to receive an IPTV feed of Sky’s programming via
a new set-top box. However unlike the NFLX/Mediaset deals there is no billing
integration and customers have to sign two contracts.
The number of TI customers taking a Pay TV offer is still fairly low, 407k in Q315, with the
premium offer with Sky TV only adding c.6k in October, evidence perhaps that
convergence remains less appealing to Italian consumers. However for those that are
joining, the TI strategy does appear to be working. At Q2 TI presented data showing that
60% of the customers signing up for a Sky package were coming from an ADSL tariff and
58% of those who took it were switching to a fibre offer while a further 22% were taking
the TIM Smart converged offer.
Fixed BB
Customers,
14m
Other, 5m
Mobile BB
Customers,
7m
Pay TV
Customers,
7m
Interested in
Pay TV, 7m
No interest in
Pay TV, 12m
0
5
10
15
20
25
30
Consumer Households TV Households
26m 26m
Potential TV
Targets
TIM Vision
Amazon PrimeNetflixHulu
HBO GO
SkyMediaset Premium
Mass Market
Base Quality
Premium Quality
Base -content enabler
Wide range of content, SVOD, events, etc .Integration with linear TV
Premium offer with liveevents & on-demandchannels
Video Content
Each fixed line operator offers some
form of Pay TV content, but
Vodafone’s content offering is less
extensive than that of Fastweb/TI.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 47 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 24: Telecom Italia Triple/Quad Play Packages Package Promo Price
(EUR)
List Price
(EUR)
Broadband Speed Minutes
(Fixed)
Data
(GB)
Minutes
(Mobile)
SMS
(Mobile)
TV Package
TIM Smart Fibre €29 €39 100 N/a N/a N/a N/a TIMVision
TIM Smart Casa €29 €39 100 Unlimited N/a N/a N/a TIMVision
TIM Smart Mobile €29 €39 100 N/a 2 500 N/a TIMVision
TIM Smart Fibra + Sky €39 €59 100 N/a N/a N/a N/a Sky
TIM Smart Casa + Sky €39 €59 100 Unlimited N/a N/a N/a Sky
TIM Smart Mobile + Sky €39 €59 100 N/a 2 500 N/a Sky
Source: Company Data
At present content exclusivity doesn’t appear to be featuring highly on any of the
telecoms operators’ agendas. Vodafone has repeatedly made it clear that they have no
interest in bidding for exclusive content. At the Nov interims, Mr Colao said “we still want
to distribute content. We don't want to own content […] we don't think that bidding for
exclusivity is a good thing“. Whilst TI has said in the past that its strategy is to have only
an element of proprietary content on its platform (within the TIMVision offering) but then
to resell other service providers. However as Vivendi’s influence on TI’s strategy evolves
this could all change.
In Spain, TEF has used a combination of lenient fibre regulation and exclusive content to
maintain its c.50% broadband market share. In Italy, TI could aim to replicate this strategy
by either acquiring one of the existing Pay-TV vehicles (realistically Mediaset Premium) or
beginning to acquire its own content directly. Clearly both these strategies are not
without risk given that both Sky Italia/Mediaset Premium are far from generating an
economic return over a decade since their respective launches. However unlike Spain,
where TEF has been forced by the regulator to share a portion of its premium content, it is
not obvious that in Italy TI would have the same obligations and in a market where
convergence is slowly gaining traction exclusive content might help TI to differentiate its
offer. In February TI’s Board will review the new strategic plan and by FY15/16 results we
are likely to know whether Vivendi’s influence has changed TI’s strategic direction. There
is an obvious risk for Vodafone here, and one that, in our view, Vodafone should be
indicating more strategic readiness for.
Fibre – Strong Market Momentum in Fibre
Fibre customers almost doubled in the 12 month period to September 2015 (Chart 33),
driven in part by the Italian market as a whole continuing to adopt a strategy of pricing
fibre in line with ADSL, at least during the initial promotional periods (Table 25). This
strategy has been successful in driving fibre adoption. Fastweb previously stated that their
sales penetration was 20% higher in areas where they offer fibre and Vodafone
announced at Q2 that a third of their gross adds were taking fibre (Chart 34). Whilst this
approach has been successful in driving uptake and potentially offers the opportunity to
upsell customers onto IPTV packages, in the long term this ‘zero-premium’ approach
does raise questions as to whether it may have irrevocably removed the value perception
to the Italian consumer and sacrificed any potential ARPU uplift from selling higher speed
internet in the long run.
Content exclusivity currently seems
low on the agenda for Italian telcos
but Vivendi’s influence on TI may
change this
We have seen TEF use a similar
strategy in Spain to defend its FBB
market share and we think Vodafone
need to be wary of TI pursuing a
similar tactic
Fibre is driving FBB adoption but
pricing remains in line with ADSL
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 48 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 25: Fibre pricing remains in line with ADSL pricing Operator/Package Promo Price
(EUR)
List Price
(EUR)
Broadband Speed
(Mbps)
Minutes
(Fixed)
Other
Vodafone
ADSL €25 €29 20 Unlimited* SkyOnline (6 Months)
Fibre €25 €30 300 Unlimited* SkyOnline (6 Months)
Telecom Italia
TIM Smart Casa (ADSL) €29 €39 20 Unlimited TIMVision
TIM Smart Fibra (Fibre) €29 €39 100 Unlimited TIMVision
Fastweb
Superjet (ADSL) €29 €45 20 Unlimited Choice of Dropbox, SkyOnline, Deezer or a Digital Newspaper
Superjet (Fibre) €29 €50 100 Unlimited Choice of Dropbox, SkyOnline, Deezer or a Digital Newspaper
Wind/Infostrada
Absolute ADSL €25 €35 20 Unlimited SkyOnline
Absolute Fiber 20 €25 €35 20 Unlimited SkyOnline
Absolute Fiber 100 €30 €38 100 Unlimited SkyOnline
Source: Jefferies, company data, *to selected numbers
At Q2 15/16, Vodafone had 148k fibre subscribers (7.9% of its total FBB customer base),
significantly less than TI (435k) and Fastweb (c.600k) who between them have over 85%
of the market fibre subscribers. We estimate that around 100k are supplied using TI’s
‘Open Fibre’ product (given that at Q315 TI reported it had 105k customers on its
wholesale fibre product which is likely to be predominantly Vodafone) and the remaining
third on Vodafone’s own built or Metroweb fibre.
Chart 33: TI/Fastweb account for over 85% of Market
Fibre Subs
Source: Jefferies estimates, Agcom, Company Data.
Chart 34: Percentage of Broadband Base taking Fibre
Source: Jefferies, company data
Italian Fibre Investments – Roll out progressing but VOD lags competition
The lack of fibre investment has been a source of contention in Italy and fibre coverage
still lags much of developed Europe. In the 2015 Agcom annual report, only 36% of
Italian homes were passed by fibre vs 68% for the EU-28 and only 4% of household used a
connection in excess of 30 Mbps (26% for the EU-28). With no competition from cable,
operators have been unwilling to accelerate investment in fibre with the return prospect
so uncertain given the general macro environment, relatively low penetration of FBB and
the Italian consumer’s apparent unwillingness to pay a premium for fibre.
That said, the country does at last appear to be accelerating its deployment. TI coverage
increased to 40% of homes passed in the latest quarter from 27% in Q214/15. Whilst in
the Institute for Competitiveness’ 2015 Broadband study Italy was ranked as a “fast
mover” following its 14% increase in the reports points system (EU average was 5%)
despite still ranking 23rd on broadband speed overall.
281 291 314
640
777903
1,073
1,226
2.1% 2.1% 2.2%
4.5%5.4%
6.2%7.3%
8.3%
0.0%
10.0%
20.0%
0
500
1,000
1,500
Sep-11 Sep-12 Sep-13 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15
Not Disclosed Vodafone
Fastweb Telecom Italia
NGN lines as % of Tot. BB lines
2.2%3.3% 4.2%
5.4% 6.2%7.9%
22.3%24.1% 24.5%
26.0%27.6%
0%
5%
10%
15%
20%
25%
30%
Q2 14/15 Q3 14/15 Q4 14/15 Q1 15/16 Q2 15/16
Telecom Italia Vodafone Fastweb
c.8% of Vodafone’s FBB base take
fibre of which the majority are
supplied through TI’s wholesale
product.
Fibre roll out in Italy lags behind the
rest of Europe
…but deployment does appear to be
accelerating
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 49 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Vodafone has also accelerated its roll out and now covers 2.2m Italian homes with fibre
(c.9% of Italian homes) of this c.3% (0.7m) using Metroweb infrastructure with the
remaining 1.5m own-built FTTC. By September Vodafone had built its FTTC network to
nearly 12k cabinets, adding 8k cabinets since March 2015. Vodafone has set a medium
term target of covering 6.5m homes (c.27%) with own-built FTTC (likely to be March 18).
However despite the planned acceleration in roll out, Vodafone will still lag the
deployments of TI (40% in Q2 14/15) and Fastweb (26%) and will remain reliant on
wholesale access to service the majority of the country (Chart 35).
Chart 35: Italian Fibre Deployments (% of Homes Passed)
Source: Jefferies estimates, company data
The Italian fibre rollout plans are complicated. At present alongside the standalone
investment plans of Telecom Italia, Fastweb and Vodafone, the operators including Wind
are also engaged in discussions with wholesale providers Enel (Italian utility provider),
Infratel and Metroweb (the Milanese wholesale fibre provider). For completeness, we
summarise the major investment plans here:
Telecom Italia, currently passes 40% of Italian homes and plans to reach 19.5m homes
(c.75% of Italy) by the end of 2017. As part of its 2015-17 strategic plan, TI plans to
invest €2.9bn on fibre of which €500m will be dedicated to developing FTTH. In
December, TI also announced that it is finalising joint rollout plans with Metroweb to
bring fibre to 250 cities and that discussions with regulatory authorities will commence
this month.
Fastweb, currently passes 6.2m homes +7% q/q and c.82% of its 2016 target of 7.5m
(c.30%) Italian homes.
Metroweb, is working with Vodafone/Wind on a on a €4-5bn fibre-optic investment
plan. According to reports in December the companies are discussing which cities to roll
out the JV to via a vehicle called Metroweb Svilluppo. In December the companies
signed a two month extension to a non-binding letter of intent originally signed in May
2015.
Enel, confirmed in November that it plans to build a national fibre network open to all
operators. Enel Open Fiber, as it will be called, aims to take advantage of the fibre
funding promised by the government to lay fibre down the ducts that it will be building
to implement its 33m meter smart-metering project. Both Wind and Vodafone have
already expressed interest in working with Enel on this.
In January 2016, Reuters reported that despite the Italian government failing to draw
any private sector interest for its public-private investment plan, state-owned Infratel
19%
23.00%
27%29%
32%
37%
40%
0%1%
2%4%
5%7%
24%26%
0%
5%
10%
15%
20%
25%
30%
35%
40%
45%
Q4 13/14 Q1 14/15 Q2 14/15 Q3 14/15 Q4 14/15 Q1 15/16 Q2 15/16
Telecom Italia Vodafone (Own Built) Fastweb
Vodafone now passes 2.2m homes
and has targeted 6.5m in the
medium term
Fibre deployment is fragmented with
telco operators, wholesale providers,
utilities companies and the public
sector all engaged in deployment
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 50 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
will push ahead with the first phase of the project alone rolling out fibre into rural areas
in the south of the country. So far the government has committed €2.2bn of public
funds to begin work and the European Investment Bank has freed up a further €500m
loan. The plan, which was originally announced last June, was intended to be a €12bn
ultrafast broadband project aiming to bring high-speed broadband of 100 Mbps to 85%
of Italy's population by 2020 (exceeding the 50% target within the EC’s “Digital
Agenda”). The state and EU structural funds were to contribute €7bn and private
companies the remaining €5bn. The funds would be deployed in those areas where a
standalone commercial case for investment fails (i.e. rural areas containing 35% of the
population). Whilst the project is going ahead, the commentary from Antonello
Giacomelli (Undersecretary of Communications) at the time that “participation of the
private sector will be necessary in order for the state to realise its goal” does appear to
leave the 2020 goal in some doubt.
Wind offered the fixed assets of its fixed subsidiary Infostrada to the Government as part
of its €12bn investment plan.
For Vodafone, while their fibre deployment is accelerating, even when it achieves its roll
out target (probably by March 2018) it will continue to lag the coverage of its
competition and will remain reliant on wholesale access to truly compete with TI/Fastweb
on a national basis. The relative of economics of the self-build fibre vs wholesale option
hasn’t been made public information, but given Vodafone is continuing its fibre roll out,
one can suggest that at least in major metropolitan areas the self-build economics are
favourable.
In our view, the risk for Vodafone remains that a Vivendi backed TI takes advantage of the
regulatory vacuum to push retail fibre hard, perhaps in combination with convergence,
seeking advantage in the absence of harsher wholesale regulation. Telefonica have until
recently utilised such a strategy to support its fixed market share. For Vodafone, in the
absence of tougher regulation the only solution would be to accelerate and increase its
fibre investment plans or even look at potential inorganic options such as an acquisition
of Fastweb.
Convergence – Still Early Days
Compared with other Southern European markets like Spain, Italy has been slow to adopt
convergence. This is partially because of its largely prepaid mobile customer base to
whom the value proposition from convergence is less applicable. That said, all the major
operators now offer convergence tariffs, albeit Fastweb and TI seem to be more actively
marketing them compared to Vodafone and Wind. We lay out the main converged
offerings from the operators in Table 26 below.
Table 26: Italian Convergence Packages Operator Package Promotional
Price (EUR)
List Price
(EUR)
Broadband
Speed
Minutes
(Fixed)
Data
(GB)
Minutes
(Mobile)
SMS
(Mobile)
TV Package
ADSL
Vodafone Relax Casa Edition €39 €49 20 N/a 2 Unlimited Unlmited N/a
Telecom Italia Tim Smart Mobile €29 €39 20 Unlimited 2 500 N/a TimVision
Telecom Italia Tim Smart Mobile and Sky TV €39 €59 20 Unlimited 2 500 N/a Sky TV (39 Channels)
Fastweb Joy Full €20 €35 20 N/a 5 Unlimited 300 N/a
Fibre
Vodafone Relax Casa Edition €39 €49 300 N/a 2 Unlimited Unlmited N/a
Telecom Italia Tim Smart Mobile (Fibre) €39 €49 100 Unlimited 2 500 N/a TimVision
Telecom Italia Tim Smart Mobile and Sky TV
(Fibre)
€49 €69 100 Unlimited 2 500 N/a Sky TV (39 Channels)
Fastweb Joy Full €20 €40 100 N/a 5 Unlimited 300 N/a
Source: Jefferies, company data, Note: Wind/Infostrada offer a discount of c.€11-12 on their fixed tariffs for customers who have an active Wind Postpaid sim or €5-7 for those with a prepaid sim.
For Vodafone, while its fibre
deployment is accelerating, it will
continue to lag the deployment of its
competitors
Fastweb/TI appear to be pushing
their converged tariffs harder than
that of Vodafone/Wind.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 51 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Vodafone doesn’t disclose the share of its base that now takes convergent tariffs. However
given the lack of marketing focus and website placement we would suggest it remains a
relatively small part of its customer base and lower than the 900k customers that TI had
on its TIM Smart convergent offer at 3Q15 (3%/13% of the TI mobile/fixed base
respectively). For TI, convergence is another core pillar of their strategy and management
has spoken in the past about winning back mobile only households as a key area of focus.
They estimate 7m households have mobile voice/broadband only. Interestingly according
to TI, this segment is overweight households that are young single owners/families that
are consuming a lot of video, this is the perfect target audience for a converged tariff,
especially one containing content. In our view, it will be interesting to see if Vodafone
feels the need to push its own converged tariff harder in 2016 should the Italian market
move further towards convergence.
We suspect that convergent
customers remain a small part of
Vodafone’s customer base but if TI
continues to push convergence it
will be interesting to see if
Vodafone’s attitude to convergence
changes in 2016
VOD LN
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26 January 2016
page 52 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
UK: In Need of Protection We credit Vodafone with stabilising UK revenue trends in the last 12 months. But it seems
to us that the group’s outlook is shakier here than anywhere else in the Europe footprint.
With BT’s acquisition of EE approved earlier this month (and O2/Three UK approval
likely to follow in the spring), we believe that Vodafone finds itself exposed as (to all
intents and purposes) a mobile-only player in a market hurtling towards quad-play.
Mobile is the most commoditised element of the bundle, in our view, making it the
part most likely to be discounted.
Battle lines are drawn. BT, Sky and Virgin Media will all possess powerful bundling
capabilities, able to defray discounting pressure on ‘commodity’ products with
pricing power on their respective ‘core’ ones. Vodafone sits alongside an enlarged
Three and TalkTalk on the wrong side of this new competitive divide. Merging with
Virgin Media would be the convincing response.
A final overhang to mention is the possibility that a merged O2/Three would scale
down involvement in the Cornerstone (O2-Vodafone) network-sharing JV whilst
remaining locked into MBNL (EE-Three) by onerous exit penalties. If EU Merger
Control does not properly address UK network-sharing arrangements in its
O2/Three merger remedies, Vodafone could face a structural cost disadvantage.
Vodafone has invested margin to stabilise revenues
Accelerated investment in the UK mobile network pre-dated Project Spring and, whilst
progress has evidently been slowed by obstructive planning laws, Vodafone is now
benefitting from three years of 15-16% capital intensity (vs 11-12% previously). In the last
four quarters, Vodafone has managed to stabilise service revenue trends (Chart 36),
reversing previous under-performance relative to EE. Admittedly both have benefitted
from O2’s diminished competitive presence, although its slide has been reversed since the
disposal to Hutchison was announced in March last year. We would suggest that EE’s
strong focus on raising profitability ahead of (what for a long time seemed to) a targeted
IPO, has also eased the competitive intensity that Vodafone might otherwise have faced.
The failure of Three to secure a significant increase in usable frequencies at the 2013
spectrum auction left the historic disrupter having to rebalance its strategy away from
maximising customer growth towards optimising yields on its scarce resources. Three
raised prices and has, since 2014, occupied a niche of offering attractive unit pricing but
focused on high data users committed to above-average monthly spend. Monthly
contract net additions at Three have slowed from c.70k in 2012 to c.15k in 1H15 (its most
recent reporting).
Chart 36: UK service rev growth – Vodafone trends have
recovered relative to EE, whilst outperforming O2
Source: Company Data
Chart 37: UK EBITDA margins – Vodafone’s weak margins
may reflect commercial investment and impact of CWW
Source: Company Data. Note: VOD/EE/Three report half-yearly. VOD 2Q-3Q15 adjusted for £86m one-off ladder benefit.
-10%
-8%
-6%
-4%
-2%
0%
2%
4%
6%
8%
10%
Vodafone EE O2 Three
10%
15%
20%
25%
30%
Vodafone EE O2 Three
Network investment has helped to
improve relative performance
VOD LN
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26 January 2016
page 53 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
The concerning aspect of Vodafone’s development has been a weakening margin which
contrasts against stable-to-improving profitability at all three of its rivals. For 1H15/16,
Vodafone reported a 19.7% margin (net of ladder settlements) which was -150bp y/y. The
company attributes -110bp of this to the phasing of central costs, but if we look further
back (Chart 38) the trend is readily apparent. In the UK, Vodafone continues to incur high
customer costs (still 3pp of revenue above its Europe average) in spite of all the network
investment. Integration of CWW (from Apr 2013) coincided with the start of Vodafone’s
margin downturn.
It seems likely that margin pressure is still emanating from the legacy CWW activity where
legacy revenue streams in structural decline (such as voice) carry high marginal margins
and where BT is presumably fighting hard to defend market share.
Chart 38: UK mobile contract net additions (000)
Source: Company Data
Chart 39: Vodafone UK fixed service revenue decline
Source: Company Data. Note: in 4Q14 VOD highlighted unusually strong carrier revs although this was not quantified.
Mobile is not the ideal ‘core’ product as quad-play gains traction
Vodafone has pointed out that appetite for fixed-mobile plans among UK consumers has
been severely limited to date. We believe this reflects market structure, not inherent
disinterest. The UK market has been sustained in a fragmented form with four main
mobile players sharing >90% of retail customers and four main fixed broadband players
aggregating 92% market share with no overlap between them.
Merger activity in 2016 will re-shape incentives. BT-EE approval creates a merged entity
with 32% retail market share in postpaid mobile and 33% in fixed broadband. BT has
previously estimated only around one-third of EE customers have an existing relationship
with BT, and vice-versa. Logically this creates a cross-sell opportunity that, it seems to us,
is rather conservatively estimated within a published revenue synergy target of £1.6bn
NPV. (Based on BT’s discount rate, the synergy target implies an annual uplift of c.£160m,
equivalent to c.1% of combined revenue for BT Consumer, BT Business and EE.)
At least the enlarged BT has an obvious incentive to protect mobile pricing. It is
reasonable to think that the greater threat to pricing, and hence to Vodafone’s outlook,
emanates from O2/Three. This merger proposal is currently undergoing Phase II scrutiny
by EU merger control, which is likely to issue its “Statement of Objections” to Hutchison
and TEF shortly, an event that will frame the subsequent negotiation of remedies.
At an investor day in London two weeks ago, senior management from CK Hutchison
made clear that closing telecom consolidation deals in the UK and Italy represents the
group’s most important opportunity for value creation in 2016. Whilst insisting that it will
not accept wholesale access remedies which amount to “sequestration” of its
infrastructure, we felt that Hutchison did signal a clear intent to engage with EU
competition authorities in addressing competitive concerns.
0
50
100
150
200
250
300
Vodafone EE O2 Three
-10.1% -10.7%
-2.0%
-5.7%
-1.3%
-0.5%
2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Merger activity will polarise the UK
market according to convergence
capabilities
Existence of a credible wholesale
alternative should O2-Three
approved with remedies, in our view
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 54 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
(Please see our 11 Jan note, Telecom Services: Carrot and Stick – CK Hutchison Framing its
Approach to EU Merger Review.)
Based on previous merger negotiations, including last year’s failed Danish process, the
likely core condition of O2/Three approval will be the carve-out of network capacity from
the enlarged Three to be made available on a wholesale basis to MVNO candidates with
powerful brands like Sky, TalkTalk and Virgin. For those operators, mobile will be the
appendix to their bundles, hence the possibility of pricing mobile close to marginal cost.
In reality, all three MVNOs would need to tread carefully, fearful of a fight-back from
mobile-only Vodafone and Three, which could – over a period of time – work themselves
into a position to be able to undercut current market pricing in fixed
broadband/telephony. In previous research we've highlighted that the contribution profit
Sky generates from line rental/broadband/calls equates to c.60% of its UK EBITDA.
Meanwhile, Virgin has to protect an elevated triple-play ARPU of c.£70/month (which is
not backed but much adoption of premium content) whilst TalkTalk may feel that its
balance sheet is nowadays too leveraged to risk taking on the large incremental fixed cost
that the mobile wholesale remedy would entail.
With this in mind, we would not expect a dramatic mobile price war to ensue post
O2/Three merger approval. A more subtle evolution of commercial tactics seems likely, in
which BT, Sky and Virgin exploit their quad-play capabilities with bundle discounts that
are recovered through the pricing power that these brands can exert on the differentiated
‘core’ products (e.g. Sky TV, cable broadband, BT Infinity/Sport). With pricing power
lacking in mobile, Vodafone and Three face a struggle to preserve revenue market share,
in our view.
For Hutchison, pursuing the O2/Three merger is beneficial nonetheless, in our view, even
with material remedies. A standalone Three UK faces little prospect of generating an
economic return on c.£10bn of capital invested. Merging with O2 relieves the spectrum
constraint that both parties have suffered from. Carrier aggregation should magnify the
resultant capacity enhancement. Three claims to deliver 48% of mobile data traffic in the
UK, against 16% for O2 (and 11% for Vodafone). Incorporating the O2 base therefore
provides a useful diversification for Three into the segment of less data intensive
customers, whilst the aforementioned capacity upgrade should give it the headroom to
add more data intensive customers as well. Unlike Vodafone, an enlarged Three would be
able its concerns around retail pricing against the certainty of long-term wholesale
revenue commitments.
Given the very viable prospects for wholesale to become a powerful source of
competition in UK mobile, we would be very surprised if the EU competition authorities
are unable to find a structure to approve the O2/Three merger. Should remedies be of a
size that put Hutchison’s target of net £4bn synergies in doubt, we think the group would
been in a strong position to renegotiate terms with TEF, perhaps paying less or deferring
some consideration until specific targets have been achieved.
Speaking at the Nov interims, Vittorio Colao expressed concern about the potential
impact of UK consolidation on network sharing. He said “if the network sharing that we
have with O2 gets weakened and BT ends up controlling three-quarters of […] assets,
then it’s bad”. In its BT-EE merger analyst, the UK’s Competition and Markets Authroity
published a Provisional Findings Report last Oct in which it stated that the merging parties
had disclosed that, post-merger, Three would find it “very costly” to leave MBNL (the EE—
Three network-sharing JV) before 2031. We confirmed this with Dave Dyson (Three UK
CEO) two weeks ago. Hutchison’s plan for integrating O2 includes the elimination of 6-7k
duplicate cell sites, to trim the portfolio to 26k. Management says that existing
agreements with MBNL and Cornerstone (the O2-Vodafone network JV) will be honoured.
However, Hutchison management will not be drawn on the size/duration of any exit
penalties that may exist in the Cornerstone agreement. If Three were to be able to exit
O2’s network-sharing arrangements with Vodafone more readily than its MBNL
commitments, this might leave Vodafone with a cost disadvantage going forward.
We do not expect a mobile price war
but Vodafone lacks a core product
with pricing power
Hutchison’s MBNL exit penalties
could leave Vodafone in a
disadvantaged cost position
VOD LN
Rating | Target | Estimate Change
26 January 2016
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Please see important disclosure information on pages 86 - 91 of this report.
Chart 40: Mobile/BB & TV Market by Operator
Source: Jefferies, company data
Chart 41: UK mobile spectrum holdings
Source: Company Data
Several responses are possible; Virgin Media is the convincing one
Virgin Media would deliver immediate access to c.4m customers who display rather low
propensity to churn and a willingness to pay premium prices for high-speed broadband.
Brand position fits well with Vodafone, in our view. Through Virgin Media’s billing
relationships, Vodafone could better target breadwinners in the household. This could
strengthen its 4G market share and improve the quality of customer intake as well. Selling
Virgin’s TV/video product within bundles would give Vodafone much more scope to
differentiate and reduce churn. (Vodafone’s contract churn is current c.16% despite
typically 2-year contracts and heavy retention spending.) Partnering with Virgin Media
might allow Vodafone to target households more effectively than it could on its own.
Quad-play bundles could be used as a springboard for family plans.
The fall back option is Sky. From a UK perspective, Sky would deliver a strong platform for
quad-play backed with differentiated content. Vodafone could target its 4G marketing on
breadwinners in generally affluent households and, similar to Virgin, could use this as a
springboard for family plans. Sky would bring c.10m valuable DTH households, of which
we estimate c.2m retain a retail broadband subscription with BT. With more Vodafone 4G
customers having access to content, they might be more willing to trade up to (and pay
for) higher data tiers. There are some major drawbacks however.
Sky’s premium valuation impounds ambitious predictions: that UK margin
expansion can be sustained even as the treadmill of escalating content costs
spins faster, that Germany can maintain high customer growth alongside rising
ARPUs on a thin (football-dominated) proposition with little opposition from
telecom operators (belatedly now promoting fixed-mobile bundles for which
content might be a logical differentiating next step) and, finally, that Italy won’t
be fatally undermined by TI concluding that seizing sports rights and striking
exclusive distribution deals offers the best prospect of defending a dominant
telecom position and restoring growth. (In our 2 Dec 2015 report, Vivendi: Only
Full Control Brings Italian Ambitions in Reach, we argued that TI’s no.1
shareholder aims to engineer in Italy a TEF Spain-style diversification of
incumbent telecom into dominant pay TV platform.)
As we mentioned earlier in this report, the passive approach of DTE and TI content
has given Vodafone valuable breathing space. It has been able to react to TEF’s
aggressive quad-play push without the need to fight on other fronts as well. Even if
Vodafone were to acquire Sky with UK quad-play primarily in mind, it seems unlikely
that DTE and TI would remain willing wholesale customers and that, in fact, both
would feel compelled to invest in their own differentiated content more urgently.
24.4
3.0 0.6
17.7
35.5
8.8
5.64.6
4.1
0.1
1.3
11.23.7
1.4
0
5
10
15
20
25
30
35
40
BT (Inc. EE) Sky TalkTalk Virgin
Media
Vodafone Hutch/O2
Mobile Customers Broadband Customers TV Customers
Virgin Media is a better fit for
Vodafone than Sky or TalkTalk
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 56 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
TalkTalk remains a highly plausible escape route for Vodafone, in our view. As part of our
longstanding bearish view on TalkTalk, we have previously highlighted its numerous
drawbacks: a heavily promotion-driven customer base, a high tendency to churn, a
distinct low-tier demographic, limited fibre investment and outflanked on product
development. Having conceded value leadership to maximise revenue growth and defend
margins as best it could, TalkTalk finds its retail niche threatened (most notably from Sky)
and in sharp decline. Valuation may no longer be as stretched as it was, but neither is it
‘cheap’, in our view. We suspect that TalkTalk management would listen to offers, but
Vodafone must keep its powder dry for acquisitions that strengthen its convergent
capabilities much more convincingly than this.
Ofcom’s DCR is not likely to be the game changer
In the next few weeks, we expect Ofcom to publish a preliminary conclusions paper on its
Digital Communications Review. This follows an extensive consultation which closed last
October. The scope of Ofcom’s DCR is to ensure that appropriate incentives are in place
for efficient investment and effective competition. It will focus on a range of outcomes
including coverage, choice, price and quality of service. At various briefings Ofcom has
mentioned the importance of retail customers being able to switch easily between
providers and also the ambition of removing regulatory complexity where possible.
These are high-level themes, of course, and we would be surprised if the DCR (in its
preliminary or final forms) contains any specific new regulation. Our understanding from
speaking with Ofcom is that the DCR will define areas where it feels more work is needed.
The nitty gritty of deciding what to do and how to implement it should be left to specific
in-depth reviews (with their own public consultations) in each area. We are doubtful that
even Ofcom’s final DCR conclusions, which are due by year-end, will do much to
transform Vodafone’s prospects.
Fixed access market. Ofcom has already said it is interested in how to incentivise
operators to invest in infrastructure and how to ensure they get an adequate return.
The DCR might therefore highlight aspects of current regulation which may need to
change to facilitate this, for example mandating access to passive BT infrastructure
on better terms, tightening up Openreach service-level agreements, regulating
VULA differently by geography and/or suggesting that demand for ‘superfast’
broadband is so assured now that future Openreach wholesale products might be
subject to specified price caps at an earlier stage than GEA. The exact
implementation of all this would be a matter for the next Fixed Access Market
Review, which is due to complete by April 2017.
Structural separation. Ofcom will need to demonstrate that any remedies it
proposes in the DCR are proportionate to the level of harm identified. Vodafone,
TalkTalk and Sky have all suggested that bottlenecks exist around Openreach which
can only be relieved through structural separation of the local access network from
the rest of BT. Ofcom does not have the power to enforce that but conclude – as a
conclusion from the DCR – that this would be beneficial, in which case it would refer
the issue to the CMA, which would then launch its own (separate) investigation. The
risk to UK industrial policy of embarking on structural separation, leading to a multi-
year delay in fibre deployment, seems to us a lot more certain than the highly
debatable benefits. Speaking in Brussels at a conference we attended last Oct,
Commissioner Oettinger stressed the urgency of achieving Digital Agenda
coverage/speed targets as a critical enabler of the wider digital economy. At the
same meeting, both he and incoming BEREC Chair, Wilhelm Eschweiler, underlined
the importance of encouraging market participants to invest. Both expressed the
view that competition is the main driver of investment, and we think that this means
competition at the network level, not merely a choice of retail offerings for
consumers. In fact, it is our impression that the EC is even floating the notion of a
‘first mover’ incentive for innovators willing to take on an investment risk. The
creation of a network monopolist, which structural separation of Openreach would
entail, precludes the possibility of market participants differentiating themselves
DCR aims to define areas where
more investigation is needed, not to
prescribe specific new regulation
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 57 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
through innovation in the network. Structural separation is decisively at odds with
the flow of the debate among European policy makers, in our view, and we observe
that it is not even an active work-stream at BEREC.
Consumer-focused initiatives. Having invested so much resource in the DCR,
Ofcom is likely to want to unveil initiatives that offer tangible consumer benefit. We
think that proposals could focus on making switching suppliers easier, forcing
greater transparency on how price comparison sites rank offers (e.g. having to take
more account of line rental) and strengthening recourse for customers whose
broadband speed expectations are not met.
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 58 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Germany: New Pricing Suggests Fight Back Underway Germany is the most important geography for Vodafone. Alongside being the largest in
terms of revenue/EBITDA contributing 20/23% to group Revenue/EBITDA, it is also one
that has, for 3 years now, displayed visible underperformance on the mobile side.
Hampered by back book pricing issues and poor network quality, Vodafone has ceded
subscriber and revenue market share to DT; unacceptable from a management point of
view. Following significant network investment and with the back book headwinds
diminishing, continued underperformance vs. DT is also unjustified. We believe that
Vodafone’s remaining issues have mostly to do with marketing, in particular under-
exploiting the own-brand low tier segment (where it seems to us that DT’s Congstar is
more aggressively promoted that Vodafone’s Otelo). For Vodafone Germany’s new CEO
(who arrived in October), closing the mobile performance gap will be the urgent priority,
and we see no fundamental obstacle to achieving it. We think the first signs of this fight
back may have come in the form of a raft of more aggressive mobile promotions from
Vodafone in November, that position it in line with O2 and at a significant discount to DT.
Making up for lost time
The relationship between DT and Vodafone has been characterised by phases of relative
out/underperformance (DT outperformed during 2009-10, before it was Vodafone’s turn
in 2011-12). Over the last few years Vodafone Germany has lagged significantly behind
incumbent DT in terms of both commercial and financial performance (Chart 42/Chart
43). This has been driven by mobile weakness, largely a result of poor network quality
and significant back book issues in mobile.
Chart 42: Total Service Revenue Trends – Vodafone has
lagged DT since Q4 12/13 but this gap appears to be
closing with the inclusion of KDG
Source: Jefferies, company data, Includes KDG from Q1 15/16
Chart 43: Cumulative Post Paid Net Adds – Again Vodafone
lagging DT
Source: Jefferies, company data
In our view, the tides are now slowly shifting in Vodafone’s favour. Vodafone’s network
has received significant investment and on recent calls we have seen management argue
that the network issues that were a feature of 2013/14 are now behind them. Something
we see largely supported by independent network surveys (such as the ‘Connect’ and
ComputerBILD), which show that the delta in network quality between Vodafone and DT
has significantly reduced.
With the network quality issues largely addressed, the delta in performance is likely to be
viewed by Vodafone management as completely unacceptable and the primary focus of
Hannes Ametsreiter, who joined Vodafone as the CEO of the German operation in
October is likely to be on closing the gap between Vodafone and T-Mobile.
4.3% 3.1%
-1.1% -2.6% -3.2% -6.1% -3.8% -4.2% -2.3% -1.4% -2.8% -0.3% -0.4%
-10%
-8%
-6%
-4%
-2%
0%
2%
4%
6%
Q2 12/13 Q4 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Delta VOD Serv. Rev Growth T-MOB Serv. Rev. Growth
470
1,108
1,659 1,934
2,367
1,842 2,131
2,539
2,902
(263)(127) (2) (4)
117 352
489 593 838
(500)
0
500
1,000
1,500
2,000
2,500
3,000
3,500
Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
T-Mobile - Cumulative Post Paid Net Adds
Vodafone - Cumulative Post Paid Net Adds
Vodafone trends have lagged DT for
some time, driven largely by
weakness in mobile
With Vodafone’s network quality
now significantly improved, this
under performance is likely to be
viewed as unacceptable by Vodafone
management
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 59 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Vodafone has now been in the process of repricing its back book for over two years.
Management say that they had made good progress in repricing the back book and
expect the second half to be an improvement on the first. We can see some evidence of
this improvement in the reported q/q contract ARPU declines which have improved to -
0.8%/-0.4% at Q2/Q1 vs -4.1% at Q414/15.
With the back book repricing getting near to completion and the introduction of some
fairly aggressive mobile promotions that positions Vodafone’s tariffs below that of DT and
broadly in line with O2, it feels like we may be at the start of a competitive fight back from
Vodafone.
Mobile – Tides are potentially turning
Trends in German mobile have been polarised for some time. Chart 44 shows how DT’s
mobile service revenue performance has exceeded that of Vodafone for much of recent
history. However in the latest quarters the gap has appeared to narrow with DT’s recent
mobile service performance seeming noticeably weaker than previous quarters.
Whilst some of the recent slowdown in DT’s mobile service revenue is blurred by
accounting policy, given DT book the c.€10 fixed-mobile convergence discounts fully
through the mobile line (to sidestep regulatory margin squeeze pressure) rather than
allocating them across fixed and mobile. If we instead take the approach of allocating only
half of the discount to the mobile line, it still appears that mobile service revenue growth
had slowed to +0.3% in Q2 15/16 (+0.6%/+3.2% Q1/Q4).
Chart 44: Vodafone Mobile Service Rev. Momentum has remained below DT
Source: Jefferies, company data
Whilst the performance gap has narrowed in the last few quarters, this doesn’t get round
the fact that Vodafone is still losing mobile revenue share to DT.
Vodafone continues to benefit from decent commercial momentum with its contract base
growing strongly, in Q2 Vodafone managed +245k contract net adds (32% share of
market net adds) vs +121k (14%) in Q214/15. However despite this performance,
subscriber growth remains more than offset by the ongoing repricing effect that has hurt
it over the last two years and this will need to clear before we are able to see Vodafone
return to growth. At Q1 management said that it expected that H2 will be an
improvement on H1. We expect Vodafone to return to mobile service revenue growth
during 2016/17 and on a full year basis in 2017/18.
Is the end of back book repricing in sight?
Chart 45 below shows Vodafone’s contract ARPU progression over the last 3 years. What
is noteworthy is that whilst there is still downward pressure on ARPU, the quarter on
quarter declines have notably reduced, suggesting that stabilisation may not be that far
away.
-4.2% -3.9% -6.5% -6.3% -5.2% -3.4% -3.4% -6.1% -2.2% -2.5%
-10.0%
-8.0%
-6.0%
-4.0%
-2.0%
0.0%
2.0%
4.0%
Q1 13/14 Q3 13/14 Q1 14/15 Q3 14/15 Q1 15/16
Delta Vodafone Mob Serv. Rev Growth T-Mobile Mob Serv. Rev. Growth
The effect of back book repricing
should begin to diminish
Vodafone tariffs now look aggressive
vs. DT and this could be the start of
the fight back
The mobile performance gap
between DT/VOD has narrowed…
…whilst some of this is due to
accounting policy at DT, there is still
a notable convergence
…However Vodafone service revenue
is still declining and the ongoing
repricing will need to clear before we
see a return to growth
Narrowing q/q ARPU declines imply
that back book repricing may be
nearing an end
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 60 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
In Chart 46 we look at the 2Q15/16 ARPU (€25.7) against the current Vodafone
promotional price points ex. VAT (i.e. the price that a new customer would pay in their
first months with Vodafone). What is immediately apparent is that the majority of the
tariffs are close to or above the line including most notably the Red 1.5/3GB tariffs
probably Vodafone’s most readily adopted tariffs. Clearly this isn’t an exact science given
we can’t be clear on the customer mix but it’s also worth remembering that the reported
ARPU includes inbound revenue (c.3% of service revenue) and overage/add-ons which
aren’t included in the promotional prices. This would support the point made by
management at Q2 that the difference between the inflow and base ARPU is narrowing
and suggests we may be nearing the end of the repricing.
Chart 45: Vodafone Contract ARPU & Y/y Growth
Source: Jefferies, Company Data
Chart 46: Vodafone Price Points (ex. VAT) vs ARPU
Source: Jefferies, Company Data, Note: We use the lowest price point that a customer would pay in the first 12/24 months
Network Quality – No longer an issue
Vodafone’s underperformance in mobile since 2013 can in part be attributed to
Vodafone’s poor network quality. In 2013, network test results published annually by
German telecom magazine ‘Connect’ suggested that Vodafone’s network quality was
closer to that of E-Plus/O2 than DT (Chart 48). It is debatable exactly how perceptible any
erosion in Vodafone’s network quality relative to DT really was to consumers. However,
tests like Connect are widely reported and Vodafone’s tradition close pricing alignment to
DT carries the expectation of a similar standard of product. Given Vodafone’s well
publicised weakness, it was probably hard for customers to justify paying the Vodafone
premium and yet have its network quality nearer to that of the E-Plus/O2 than to DT.
28.828.6 28.7
28.2
27.6 27.7 27.7
27.1
26.0 25.925.7
-3.0%
-4.3%-4.0%-4.1%-4.2%
-3.1%-3.5%
-3.9%
-5.8%
-6.5%
-7.2%
-9%
-8%
-7%
-6%
-5%
-4%
-3%
-2%
-1%
0%
24
25
25
26
26
27
27
28
28
29
29
30
Q4 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Contract ARPU y/y Growth
27.3 27.3 35.7 52.5 10.9 16.8 25.20
10
20
30
40
50
60
Red
1.5Gb
Red 3Gb Red 8Gb Red 20Gb Smart S Smart M Smart L
Contract ARPU
We note that the current ARPU looks
broadly aligned with current
packages in the market
Vodafone’s underperformance in
mobile can in part be attributed to
network weakness…
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 61 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 47: 4G Population Coverage
Source: Jefferies, company data
Chart 48: 'Connect' Magazine Network Quality Test
Source: Jefferies, Connect
Roll forward three years and the picture is very different. Management have argued that
the network issues are behind them, something largely supported by the data and
independent network surveys (Chart 48). As part of Project Spring, Vodafone have
invested heavily in the German network. In the process increasing 4G coverage by 10pp
from H1 14/15 (Chart 47) and acquiring a further 25Mhz of 1,800Mhz 4G spectrum in the
June 2015 auction, something which should now be helping to relieve capacity
constraints in urban areas. In our view, whilst there may be a small headwind from the
historical network weakness, with the significant marketing effort that has accompanied
the upgrade, the commercial impact of the network weakness should progressively
diminish.
Pricing – Vodafone positioning looks aggressive
Whilst list prices for both Vodafone and DT have remained unchanged this quarter, we
note that discounts at Vodafone have increased significantly. In November, Vodafone
introduced an additional €10/20/25 per month rebate valid for 12 months for customers
signing up to Vodafone’s Red 3GB, 8GB and 20GB packages respectively. The result of
this is that, in September, the discounted monthly fee for the Vodafone Red 3GB package
(actually offering 4GB despite the tariff name) was €42.49 for 24 months – broadly in line
with DT. This is now offered to customers for €32.49 for 12 months, before reverting to
€42.49 (then finally €54.99 after 24 months). As a result the equivalent DT package
MagentaMobil L which also comes with 4GB is now €12 more expensive during the first
12 months (€44.95) then €7 more expensive in the following 12 months (€49.95).
These developments are both interesting and potentially disruptive. At the list price level,
Vodafone remains at a significant premium to O2 and is closely aligned to DT. However its
12 month promotional prices are positioned slightly below those of O2, €32.49 for
Vodafone’s 4Gb package vs €34.99 for O2’s 3Gb. In Chart 46 we show the position of
Vodafone’s tariffs against the wider market. Again it is interesting how Vodafone’s pricing
is now much closer aligned to that of O2’s, with DT pricing at a noticeable premium. We
have argued before that the status quo is unacceptable for Vodafone and such a move
could be evidence of the fightback getting underway.
71%
77%
81%79%
82%
87%
73%
60%
65%
70%
75%
80%
85%
90%
H1 14/15 H2 14/15 H1 15/16
Vodafone T Mobile O2
11.1%
18.5%
9.0% 9.3%
0.0%
5.0%
10.0%
15.0%
20.0%
0
100
200
300
400
500
2012 2013 2014 2015Deutsche Telekom VodafoneO2 E-PlusVOD/DT % Variation
However this is now a thing of the
past, with surveys showing that the
quality gap between VOD/DT has
diminished
Whilst list prices remain aligned, the
introduction of more aggressive
promotional tariffs in November
leaves VOD pricing at a notable
discount to DT
In fact Vodafone’s prices are now
more aligned to that of O2 than DT
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 62 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 49: German Postpaid Pricing - Price (€) vs data allowance (GB)
Source: Jefferies, Company Data. Note 1: all Tariffs are unlimited minutes and texts but may have differing data speeds Note 2: Cost/month is shown as effective average price over a 24-month period, after discounts
Given that during Q3 roughly 40-50% of DT’s net adds were coming from its ‘no
frills’/value brand Congstar, it is also important to also compare the relative pricing in the
‘no frills’ segment. We would argue that the trend of Vodafone pricing at a discount to DT
also extends to the ‘no frills’ brands. In Table 27 we look at the relative pricing of
Vodafone’s Otelo and DT’s Congstar. It appears that although the tariff structures are
broadly aligned Vodafone’s Otelo is pricing at a 10% discount to Congstar in two of the
three comparable tariffs. Otelo’s ‘AllNet-M Flat’ is priced at a €2 discount to Congstar’s
‘Allnet Flat’ tariff both offer 500Mb of data and unlimited calls. Whilst Otelo’s ‘Allnet-Flat
XL’ is at a c.€3 discount to Congstar’s ‘Allnet Flat Plus’ which both offer 1Gb of data and
unlimited SMS’ and calls.
Table 27: Vodafone pricing looks competitive vs DT in the no frills segment Operator/Package 24 Month
Effective Av.
Price (EUR)
Data (GB) Minutes/SMS Data Speed
(Mbit/s)
DT (Congstar)
Congstar Smart 10.00 0.30 300/100 7.0
Allnet Flat 20.00 0.50 Unlimited/- 14.0
Allnet Flat Plus 30.00 1.00 Unlimited/Unlimited 21.0
Vodafone (Otelo)
AllNet Basic XS 9.99 0.25 300/Unlimited 14.4
AllNet Basic S 14.99 0.25 500/Unlimited 14.4
AllNet-M Flat 17.99 0.50 Unlimited/- 21.6
AllNet-Flat L 22.49 0.75 Unlimited/Unlimited 21.6
Allnet-Flat XL 26.99 1.00 Unlimited/Unlimited 21.6
Source: Jefferies, company data
Fixed Broadband – On Track
Following the acquisition of KDG, Vodafone now holds c.18% market share in German
broadband, up 0.6pp from Q4 13/14. Whilst Vodafone continues to perform well, Chart
53 shows that this momentum is still coming from the KDG cable asset with Vodafone’s
DSL base broadly stable adjusted for migrations to cable (-6k in the last quarter).
Despite the fairly steady migrations, Vodafone still has almost half of its base taking a DSL
based product. At Q215/16 Vodafone migrated only 26k customers from DSL to cable
and a further 18k off DSL to VDSL. On the results call Vittorio Colao reiterated that the
“the migrations depend a lot on the topology of the three networks” (DSL/Cable/VDSL)
and that the lack of overlap was the major driver for the relatively slow pace of migration
rather than any pricing discrepancy between DSL/Cable due to “effective promotions”.
As of September, Vodafone still only covered c.40% of the country with cable, leaving
Vodafone reliant on DT’s DSL/VDSL product to cover the remaining portion of the
country.
0
10
20
30
40
50
60
70
80
0 1 2 3 4 5 6 7 8 9 10
VOD DT O2 DRI UTDI FNTN
Vodafone continues to migrate
customers to cable however the pace
has been limited by the overlap of
the two networks
Vodafone also looks competitive in
the no frills segment, with Vodafone
pricing at a 10% discount to DT in 2
of the 3 comparable tariffs
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 63 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
High speed broadband is driving market growth, Chart 52 below shows that cable and
both DT Retail and Wholesale VDSL are growing whilst DSL/ULL is flat/in decline.
Interestingly whilst altnet VDSL growth appears to be incremental, DT’s VDSL growth
would appear to be at the expense of its legacy DSL base. As we discussed in our 19th
August German reseller initiation “Asset-light aspirations”, this is being driven by the
availability of the ‘contingent model’ which significantly improves reseller economics in
the migration to VDSL. That said, in recent quarters DT has seen improved traction in its
fixed broadband KPIs. Whilst still seeing a compression in market share, its share does
appear to be stabilising (Chart 51). In this context, it is interesting that Vodafone is it also
appears to be the only operator offering discounted rates to customers transferring from a
competitor DSL product to its triple play cable product, something clearly targeted at
DT’s customers in SDU’s within its cable footprint.
Chart 50: German Fixed BB Market Share
Source: Jefferies, company data
Chart 51: German Fixed BB Net Adds
Source: Jefferies, company data
Chart 52: German Fixed BB Net Adds by Technology
Source: Jefferies, company data
Chart 53: Vodafone Fixed BB Net Adds by Technology
Source: Jefferies, company data
Double Play Pricing
Vodafone’s double play pricing remains competitive across the board (Chart 54 and Chart
55). However what is notable is that while Vodafone and O2 seem to have become more
price aggressive than they were at the end of 2015 particularly on their VDSL tariffs, DT’s
pricing seems to have got less aggressive. In September, customers could get the
Vodafone Internet and Phone DSL 50 package for €29.99, now €27.49 (based on a 24
month average monthly price). At the same time the 100Mbps package has dropped from
€32.49 to €29.99. For comparison DT’s effective prices have increased by €1.50,€1.75
and €2 for its 16/50/100Mbps products vs. the same tariffs in September.
44.1% 43.5% 42.7% 41.9% 41.4% 41.2%
11.9% 12.3% 12.5% 12.7% 14.1% 14.0%
11.1% 10.6% 17.7% 17.9% 18.1% 18.3%6.5% 7.0%8.3% 8.0% 7.7% 7.3% 7.1% 6.9%
8.2% 8.7% 9.2% 9.6% 9.8% 10.0%
10.0% 9.9% 10.2% 10.6% 9.5% 9.8%
0%
20%
40%
60%
80%
100%
4Q 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Deutsche Telekom United InternetVodafone KDGTelefonica Deutschland Unitymedia
(71) (59)(61)
51 66
53 75 101
93 70 66
(200)
(100)
0
100
200
300
4Q 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Deutsche Telekom United Internet
Vodafone KDG
Telefonica Deutschland Unitymedia
(600)
(400)
(200)
0
200
400
600
800
1,000
Q4 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Cable/Other W/Sale - VDSL
W/Sale - Non-VDSL W/Sale - ULL
DT Retail - VDSL DT (Retail) - Non-VDSL
5166
5375
101 93
70 66
-100
-50
0
50
100
150
4Q 12/13 Q2 13/14 Q4 13/14 Q2 14/15 Q4 14/15 Q2 15/16
Vodafone BB Adds
Vodafone xDSL Adds
KDG (Pre and Post VOD Aqn) Adds
High speed broadband is driving
market growth in Germany
Vodafone’s pricing looks competitive
across the board in double play
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 64 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Interestingly Vodafone’s lower speed cable tariffs are unchanged but its 200Mbps
product has also been tweaked downwards by c.€2 (again 24 month effective monthly
price). We note that whilst the cable offers are at a slight discount to the VDSL tariffs (ex.
DT) they are not obviously aggressive.
Chart 54: Vodafone Double Play Pricing looks competitive
against DSL competition…
Source: Jefferies, company data, Note: 24 Month Av. Effective Price
Chart 55: …and also in Cable areas
Source: Jefferies, company data, Note: 24 Month Av. Effective Price
Triple Play Pricing
Table 28 below shows a summary of the current Triple Play price points. Whilst Vodafone
and United Internet offer an IPTV product for VDSL customers, at present we would argue
these are marginal and instead we focus on the cable offers and DT’s Entertain product.
Again Vodafone’s pricing looks competitive against both DT and UnityMedia. Whilst list
prices are broadly aligned for Vodafone and UnityMedia, Vodafone’s promotional prices
leave it pricing at a noticeable discount.
It’s a well discussed phenomenon that for tenants who live in MDU’s (Apartment blocks
etc.) that the cable has a structural advantage in that the cable connection fee is charged
as part of their non-discretionary rental service charge. As a result, for these customers
adding broadband and telephony to their TV is relatively inexpensive. For SDU customers
however, they have to pay a cable connection fee (€10 for Vodafone/€18.90 for
UnityMedia) and for these SDU customers the price discrepancy between cable and DT is
no longer obviously apparent. Instead Vodafone prices appear broadly aligned with DT
and UnityMedia at a premium following price rises late in 2015. Seemingly to counter
this, Vodafone are offering 6 months free (excluding set up fees/router costs) for
customers switching from another DSL provider to their cable offering. To our knowledge
they are the only operator actively advertising such aggressive promotions to new
customers. Something clearly designed to attract SDU customers from DT within the KDG
footprint.
32.5
37.5
42.5
20.0
27.530.0
27.5 27.5
35.8
22.524.5
27.5
0
5
10
15
20
25
30
35
40
45
50
16 Mbps 50 Mbps 100Mbps
DT Vodafone O2 United Internet
20.0
27.5 27.5
23.1
31.2
46.2
0
5
10
15
20
25
30
35
40
45
50
25/20 Mbps 100/120 Mbps 200 Mbps
Vodafone (KDG) UnityMedia
But Vodafone’s cable pricing appears
aligned to DT’s for SDU customers
(i.e. those that have to pay a cable
connection fee).
Cable offers always appear cheaper
than DT for MDU’s who have their
cable connection fee included in
their building rental service charge
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 65 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 28: German Triple Play Tariffs Operator/
Package
Promo Price
(€)
Promo Period
(Months)
List Price
(€)
24 Month Av. Price
(€)
Download Speed
(Mbps)
Voice (F2F/F2M)
€/min
TV Package
DT
MagentaZuhause S & Entertain 39.90 12 44.90 42.40 16 Unlimited/0.190 100 Channels (22 HD)
MagentaZuhause M & Entertain 44.90 12 49.90 47.40 50 Unlimited/0.190 100 Channels (22 HD)
MagentaZuhause L & Entertain 49.90 12 54.90 52.40 100 Unlimited/0.190 100 Channels (22 HD)
MagentaZuhause S & Entertain Premium 39.90 12 50.85 42.40 100 Unlimited/0.190 100 Channels (47 HD)
MagentaZuhause M & Entertain Premium 44.90 12 55.85 47.40 100 Unlimited/0.190 100 Channels (22 HD)
MagentaZuhause L & Entertain Premium 49.90 12 60.85 52.40 100 Unlimited/0.190 100 Channels (22 HD)
Vodafone (KDG)
Basis HD Kabel 25 24.99 24 34.99 24.99 25 Unlimited/0.199 100 Channels (38 HD)
Komfort HD Kabel 25 29.99 24 39.99 29.99 25 Unlimited/0.199 100 Channels (38 HD)
Komfort HD Kabel 50 29.99 24 44.99 29.99 50 Unlimited/0.199 100 Channels (38 HD)
Komfort HD Kabel 100 29.99 12 44.99 37.49 100 Unlimited/0.199 100 Channels (38 HD)
Komfort HD Kabel 200V 29.99 12 44.99 37.49 200 Unlimited/0.199 100 Channels (38 HD)
Komfort Vielfalt HD Kabel 100 39.99 12 54.99 47.49 100 Unlimited/0.199 100 Channels (38 HD)
Komfort Vielfalt HD Kabel 200V 39.99 12 54.99 47.49 200 Unlimited/0.199 100 Channels (38 HD)
UnityMedia
3Play Start 60 24.99 9 34.99 31.24 60 Unlimited/0.199 123 Channels (35 HD)
3Play Comfort 120 34.99 9 44.99 41.24 120 Unlimited/0.199 123 Channels (35 HD)
3Play Premium 200 49.99 9 59.99 56.24 200 Unlimited/0.199 204 Channels (61 HD)
Source: Jefferies, company data, Prices as of 18/1/2016 Note: Where applicable Cable Connection fees (Payable by SDU households) not included €10 for Vodafone, €18.90 for UnityMedia
Convergence
Vodafone announced plans to launch convergent tariffs during trade show IFA in 2014,
followed a couple of days later by DT who announced their MagentaEINS tariffs. Whilst
DT began actively marketing these tariffs, Vodafone continued to focus on its standalone
double and triple play tariffs. Something its competitors attribute to operational issues in
integrating KDG into the business. Vodafone finally launched its converged Red One tariff
in November 2015. This was largely expected given commentary from Vittorio Colao in
March that whilst Vodafone had seen little impact from MagentaEINS as DT had largely
been transferring customers rather than acquiring them, “it will have an impact and,
therefore we will have to respond and have our own products in that space.”
It’s too early to say how successful the launch has been for Vodafone but our general
impression is that DT continues to push MagentaEINS harder than Vodafone has its own
converged tariffs product. Whilst advertised online, would-be new customers are unable
to apply for the Vodafone Red One tariffs on the website, instead having to phone up or
visit a shop. As a result it still feels like Vodafone’s focus is on its double and triple play
products and that Red One is a largely defensive tool.
On January 4th, DT said MagentaEINS had 2m subscribers (16% of FBB base/9% of
postpaid mobile). DT is aiming to have 3m subscribers by the end of 2018 or c.25% of
DT’s broadband base. Given the commentary from both managements and the take up
so far, it’s seems unlikely that in the near term, Germany will move to become a largely
convergent market. This is not overly surprising given the history of the separate cable
and mobile operators and the context of very low Pay-TV penetration (c.17% penetration)
and seemingly little interest in Pay-TV content outside of the Bundesliga.
At the November interims, Vittorio Colao said that Vodafone intends to align its converged
tariff pricing to that of DT, again suggesting that this is a defensive rather than acquisitive
product.. Whereas DT offers a typical converged package where you are able to get fixed,
mobile and TV through one contract, Vodafone’s Red One offering works such that
customers that take both a Fixed and Mobile product and get a €10 discount/credit on
their combined spend or Fixed/TV and Mobile and get €15. Table 29 shows the current
German tariff positioning, at present whilst the list prices are fairly aligned, Vodafone’s
introductory offers look cheaper, however given Vodafone do not seem to be marketing
this product heavily, we would argue this is not that disruptive.
Vodafone launched its converged
Red One tariff in November 2015
Our impression is that Vodafone is
still pushing its 2/3-Play products
harder than its converged tariff
In our view it is unlikely that
converged tariffs become the market
norm in Germany in the near term
Vodafone has said its strategy is to
align its tariffs to that of DT.
Although current price points are
below that of DT, we would argue it
is not that disruptive given the lack
of marketing
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 66 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 29: German Converged Tariffs Operator Package Promo Price
(€)
Promotional
Period
List Price (€) 24 Month Av.
Price (€)
Broadband
Speed
Voice
(F2F/F2M)
€/min
Data (GB) Minutes
(Mobile)
SMS
(Mobile)
TV Package
DT Magenta Eins S 49.90 12 54.90 52.40 16 Included 0.5 Unlimited Unlimited N/a
Vodafone Internet & Phone DSL 16 + Red
1.5Gb
42.48 24 64.48 42.48 16 Included 2 Unlimited Unlimited N/a
DT Magenta Eins M 64.85 12 69.85 67.35 50 Included 0.5 Unlimited Unlimited Entertain
Vodafone Internet, Phone & TV Komfort
HD Kabel 50 + Red 1.5Gb
47.48 12 74.48 54.98 50 Included 2 Unlimited Unlimited **
DT Magenta Eins L 69.85 12 74.85 72.35 100 Included 0.5 Unlimited Unlimited Entertain
Vodafone Internet, Phone & TV Komfort
HD Kabel 100 + Red 1.5Gb
47.48 12 74.48 54.98 100 Included 2 Unlimited Unlimited **
Source: Jefferies, company data *100 Channels/22 HD **80 Channels/28 HD
Content Rights & The Bundesliga Auction
The current domestic Bundesliga rights expire at the end of the 2016/17 season. Rights for
the three seasons starting 2017/18 are expected to go to auction in April 2016 with the
auction/package structure to be announced imminently following the completion of a
consultation.
The total take for the domestic and international Bundesliga rights in 2016/17 will be
€835m (€673m of which from rights for domestic distribution). Currently domestic live
rights across all platforms are owned by Sky Deutschland who pay an average of €486m
p.a. Free to air providers ARD and ZDF, who have highlights rights and access to certain
live rights (the first game of the season and the first game after the mid-season break), pay
€120m. Finally Axel Springer’s BILD owns the rights to show match highlights in Germany
(behind a pay wall) one hour after the game.
At present the German domestic football rights are significantly cheaper than the
domestic rights in other markets (Chart 56). This reflects the popularity of free-to-air
highlights shows, the nascent pay-TV market and the legacy left from the Kirch Group
collapse with German companies unwilling to overpay for rights.
The main TV highlights show ‘Sportschau’ is a German institution, shown by public free
to air player ARD between 6.30-8pm on Saturdays, with a further highlights show for
Sunday games shown on Sunday at 9.45pm. The other public free to air player ZDF has
the rights to “the game of the week” highlights, i.e. the game played at 6.30pm on
Saturdays (same time as Sportschau) for which highlights are broadcast at 9.45pm on a
Saturday. Importantly the main Sportschau is far earlier than in the UK where football fans
have to wait until 10.30pm to see highlights of the days football. Chart 57 below shows
the audiences in Germany for Sportschau vs SkyD’s live Bundesliga broadcast and, for
comparison, Sky’s Premier League Football/BBC’s Match of the Day on the same
weekend. What is immediately striking is the popularity of Sportschau. Whilst of course
this ratings differential could simply be attributed to SkyD’s fairly small customer base, we
think that in itself is a function of many German consumers feeling well-served by FTA
highlights.
The BuLi rights for the three years
from 2017/18 are expected to go to
auction in April 2016
The current domestic rights are
owned by SkyD, with extensive
highlights rights owned by ARD/ZDF
German football rights are
significantly cheaper than other
European markets
Highlights show ‘Sportschau’ is
more extensive than the UK
equivalent and broadcast
significantly earlier.
The relative popularity of the FTA
highlights show in Germany/UK is
notable
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 67 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Chart 56: European Domestic Pay-TV Football Rights (€m
pa)
Source: Jefferies, company data
Chart 57: Football Audiences for Live Games and Highlights
packages
Source: Jefferies, BARB, SBD, German data is for W/e of 09/11/15, UK Data is for the w/e 6/12/15. Note. Data doesn’t include those watching on OTT products like SkyGo.
As yet there has been no announcement on the structure of the packages for the next
auction. The last we heard was that the Federal Cartel Office was still looking at the
proposed structure back in December. We understand that the German football league
(the DFL) prefers a flexible auction structure where demand will shape how games are
packaged together. There has also been press speculation that there will be a rule
specifying that no one operator is able to own all the rights. As always, the main issue
appears to be with the free to air TV highlights package. It seems the DFL wants to cut this
down from a 90 to 45 minutes and start it 45 minutes later at 7.15pm. There is a degree
of press speculation as to whether this is referring to the total show including Bundesliga
2 (second division) or just the Bundesliga (top division) games.
This season there are nine Bundesliga (top tier) games each week (1x Fri at 8.30pm, 5x Sat
at 3.30pm, 1x Sat at 6.30pm, 1x Sun at 3.30pm, 1x Sun at 5.30pm). In the next set of
rights, the DFL seems to be proposing shifting 10 additional games (out of 305) per
season away from a Saturday with five of these moving to Sunday and five to Monday.
The argument is that it will put less stress on players involved in domestic cup
competitions and European football, however conveniently it might also undermine the
appeal of the free-to-air highlights shows.
Clearly, should the rights for the free to air offering be restricted there could be a
noticeable uptick in demand for paid for football content. However it’s unclear how likely
this proposal is to be approved by regulators, as the Federal Cartel Office and more
surprisingly the boss of Bayern Munich have both voiced their support for Sportschau’s
continued existence. This would not be the first time that the FCO has intervened to
protect the FTA highlights show. During the 2009/10-2012/13 auction, the FCO actually
blocked a result following the conclusion of the auction that would have seen no FTA
highlights before 10pm. This caused the rights to be hurriedly re auctioned and is the
reason that we now have the auction structure pre-approved by the FCO.
The DFL has said that it wants to achieve 10% rights inflation (i.e. take the total take to
c.€900m) and local press reporting is suggesting that the actual target is to clear €1bn
(c.+20% inflation). To do this, we think the DFL is likely to try and package the rights into
smaller bundles that could attract demand from smaller players. However, on balance, we
are not expecting significant rights inflation in the German auction beyond these levels. In
our view, the lack of credible competition for rights means inflation like the UK, Italy or
Spain is unlikely. In Germany Sky Deutschland is the only Pay-TV operator and the two
public broadcasters (ARD and ZDF) despite both having significant budgets have shown
no interest in bidding for live Bundesliga rights.
486
727
945
2,280
0
500
1,000
1,500
2,000
2,500
Bundesliga Ligue 1 Serie A EPL (FY16/17
Onwards)
European Domestic Rights Costs (€m)
5.91
1.04
3.21
1.56
0
1
2
3
4
5
6
7
Sportschau (ARD) Bundesliga
(SkyD)
Match of the Day
Sunday (10pm)
Live Ford Super
Sunday (3.30pm)
Football Audiences (m) - Live vs Broadcast Highlights
The structure of the auction is as yet
unannounced but press speculation
is that there will be a flexible
structure where demand shapes how
the rights are packaged, with a rule
specifying that no one operator can
own all the rights
The DFL appears to be proposing
shifting fixtures away from the
weekend, a move that appears
designed to undermine the appeal of
the FTA highlights show
We are not expecting significant
rights inflation due to the lack of
credible competition
Any move to undermine the FTA
highlights is likely to meet with
opposition from the FCO
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 68 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Clearly as we have seen in other auctions, you cannot rule out the emergence of an
international bidder such as Al-Jazeera/Bein. Although given the relatively limited demand
for pay-tv in Germany, we would argue that it could be hard for a rational bidder to make
a business case that values the rights higher than the existing incumbent SkyD.
In our view, with the auctioned packages likely to be split into smaller bundles the most
credible auctions participants are the telecom operators, particularly Deutsche Telekom.
When asked, CEO Tim Höttges has not ruled out looking at the auction, but has been
keen to highlight that DT’s principal strategy in Germany is that of a content aggregator.
On balance, given the structural issues surrounding German pay TV, we believe that DT
probably won’t participate aggressively in this auction, perhaps participating only to the
extent necessary to prevent the rights from going to a competitor too cheaply. Whilst that
is the case, in our view pursuing such a strategy would not be without merit for DT. The
German market is now moving slowly towards convergence, driven by DT pushing its
MagentaEINS tariffs. Holding some exclusive Bundesliga rights, could be an effective
strategy to further differentiate their product, if they can buy them at the right price. We
have seen BT successfully leverage a similar strategy of acquiring a minority of games, and
DT management appears quite respectful of its colleagues at BT.
This would not be the first foray into Bundesliga rights for DT. During 2009-13 it had an
IPTV product called LIGA total!, which had c.110k customers and DT still runs a
Bundesliga mobile product (wholesaling from Sky) which has c.40k customers. However
these were relatively small endeavours and launching an offer that moves the needle
would cost significantly more than the €25m p.a. that DT spent on football rights at that
time. It is important to note that customers on DT’s Entertain platform can already choose
to receive Sky through their box, however this doesn’t differentiate the product as KDG
customers also have this ability.
Should DT pursue such a strategy, Vodafone would be left in an interesting position.
Whilst we have seen unwillingness for Germans to pay en masse for TV, should DT pursue
a strategy of bundling certain Bundesliga rights free with DT MagentaEINS packages this
could be an appealing prospect and leave Vodafone the option of either partnering with
SkyD or accepting an inferior product. Given the investment in KDG, accepting a
slowdown in broadband momentum could be tough to swallow for Vodafone
management.
It is impossible to rule out a new
entrant but it could be hard to them
to make the business case stack up
If the packages are to be split up,
then the telco operators are the most
likely bidders – however on balance
such a strategy still feels unlikely.
However this would not be the first
foray into BuLi rights for DT
Should DT pursue such a strategy
successfully, it could leave VOD in a
tricky situation – choosing between
either a closer partnership with SkyD
or a slowdown in BB momentum
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 69 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Market Charts
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 70 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
UK – Mobile Market Charts
Chart 58: UK Mobile Market Share
Source: Jefferies estimates, company data
Chart 59: UK Mobile Market Net Adds
Source: Jefferies estimates, company data
Chart 60: UK Mobile Service Revenue Growth
Source: Jefferies estimates, company data
Chart 61: UK Spectrum Positions
Source: Jefferies, company data
Chart 62: Mobile Service Revenue Market Share
Source: Jefferies estimates, company data
Chart 63: Prepaid/Postpaid Split
Source: Jefferies, company data
26.2% 25.8% 25.9% 25.6% 25.5% 25.3%
32.4% 32.3% 32.1% 32.1% 31.9% 31.9%
28.7% 28.9% 28.9% 29.2% 29.6% 29.8%
12.7% 13.0% 13.1% 13.0% 13.0% 13.0%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Vodafone EE O2 Three
0
100
200
300
400
500
600
700
800
900
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Vodafone EE O2 Three
-10.0%
-8.0%
-6.0%
-4.0%
-2.0%
0.0%
2.0%
4.0%
6.0%
8.0%
10.0%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Vodafone EE O2 Three
27.0% 27.0% 27.0% 27.5% 27.4%
34.0% 34.7% 34.4% 34.4% 34.2%
28.0% 27.0% 26.8% 26.1% 26.1%
8.0% 8.5% 8.9% 8.9% 9.4%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15
Vodafone EE O2 Three Virgin Mobile
44.8% 43.3% 41.5% 40.9% 39.4% 38.5%
55.2% 56.7% 58.5% 59.1% 60.6% 61.5%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Prepaid Postpaid
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 71 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
UK – Fixed Market Charts
Chart 64: UK Fixed BB Market Share by Operator
Source: Jefferies estimates, company data
Chart 65: UK Fixed BB Net Adds by Operator
Source: Jefferies estimates, company data
Chart 66: UK Fixed BB Market Share by Technology
Source: Jefferies estimates, company data
Chart 67: UK Fixed BB Net Adds by Technology
Source: Jefferies estimates, company data
Chart 68: UK Fixed BB Customer Distribution (mn)
Source: Jefferies, company data
Chart 69: UK Fixed TV Customer Distribution (mn)
24.4
3.0 0.6
17.7
35.5
8.8
5.64.6
4.1
0.1
1.3
11.23.7
1.4
0
5
10
15
20
25
30
35
40
BT (Inc. EE) Sky TalkTalk Virgin
Media
Vodafone Hutch/O2
Mobile Customers Broadband Customers TV Customers
Source: Jefferies, company data
30.6% 31.2% 31.8% 32.1% 32.3% 32.5%
19.6% 19.4% 19.3% 19.2% 19.1% 19.0%
18.5% 18.3% 18.3% 18.1% 17.9% 17.5%
19.8% 22.0% 22.4% 22.5% 22.7% 23.2%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
BT Virgin Media TalkTalk Sky EE Other
(200)
(100)
0
100
200
300
400
500
600
700
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
BT Virgin Media TalkTalk Sky EE
6.9% 9.4% 11.7% 14.5% 17.6% 20.6%
73.4% 71.2% 69.0% 66.4% 63.3% 60.3%
19.6% 19.4% 19.3% 19.2% 19.1% 19.0%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Fibre DSL Cable
(300)
(200)
(100)
0
100
200
300
400
500
600
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
DSL Fibre Cable
8.8
5.6
4.64.1
0.1
0
2
4
6
8
10
12
BT (Inc. EE) Sky TalkTalk Virgin Media Vodafone
Broadband Customers
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 72 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Germany – Mobile Market Charts
Chart 70: German Mobile Market Share by Operator
Source: Jefferies estimates, company data
Chart 71: German Mobile Market Net Adds by Operator
Source: Jefferies estimates, company data
Chart 72: German Mobile Service Revenue Growth
Source: Jefferies estimates, company data
Chart 73: German Spectrum Position
Source: Jefferies estimates, company data
Chart 74: 4G Population Coverage
Source: Jefferies, company data
Chart 75: 'Connect' Magazine Network Quality Test
Source: Jefferies, Connect
37.3% 38.2% 38.9% 39.2% 39.3% 39.6%
28.9% 27.8% 27.3% 26.9% 27.8% 27.7%
19.0% 18.8% 18.3% 18.3%
14.8% 15.2% 15.5% 15.6%
32.9% 32.7%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 3Q13 1Q14 3Q14 1Q15 3Q15
T-Mobile Vodafone E-Plus O2
(1,500)
(1,000)
(500)
0
500
1,000
1,500
1Q13 3Q13 1Q14 3Q14 1Q15 3Q15
T-Mobile (Branded) T-Mobile (Service Providers) Vodafone E-Plus O2
-10.0%
-5.0%
0.0%
5.0%
10.0%
15.0%
1Q12 3Q12 1Q13 3Q13 1Q14 3Q14 1Q15 3Q15
T-Mobile Vodafone E-Plus
O2 O2 (Post E-Plus)
0.8 0.8 0.8
0.9 0.9
0.9
1.8
1.8 1.8
1.8
1.8
2.0P
2.0P
2.0P2.6P
2.6P
2.6P
0
50
100
150
200
250
300
350
DTE -
beyond
2016
DTE -
expiring
2016
VOD -
beyond
2016
VOD -
expiring
2016
O2D -
beyond
2016
O2D -
expiring
2016
(MHz)
0.8 0.9 1.8 2.0P 2.6P
71%
77%
81%79%
82%
87%
73%
60%
65%
70%
75%
80%
85%
90%
H1 14/15 H2 14/15 H1 15/16
Vodafone T Mobile O2
11.1%
18.5%
9.0% 9.3%
0.0%
5.0%
10.0%
15.0%
20.0%
0
100
200
300
400
500
2012 2013 2014 2015Deutsche Telekom VodafoneO2 E-PlusVOD/DT % Variation
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 73 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
German – Fixed Market Charts
Chart 76: German Fixed BB Share by Operator
Source: Jefferies estimates, company data
Chart 77: German Fixed BB Net Adds by Operator
Source: Jefferies estimates, company data
Chart 78: German Fixed BB Share by Technology
Source: Jefferies estimates, company data
Chart 79: German Fixed BB Net Adds by Technology
Source: Jefferies estimates, company data
Chart 80: European Domestic Pay-TV Football Rights (€m
pa)
Source: Jefferies, company data
Chart 81: Football Audiences for Live Games and Highlights
packages
Source: Jefferies, BARB, SBD,
44.1% 43.5% 42.7% 41.9% 41.4% 41.2%
11.9% 12.3% 12.5% 12.7% 14.1% 14.0%
11.1% 10.6% 17.7% 17.9% 18.1% 18.3%6.5% 7.0%8.3% 8.0% 7.7% 7.3% 7.1% 6.9%
8.2% 8.7% 9.2% 9.6% 9.8% 10.0%
10.0% 9.9% 10.2% 10.6% 9.5% 9.8%
0%
20%
40%
60%
80%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Deutsche Telekom United Internet/FreenetVodafone KDGTelefonica Deutschland Unitymedia
(200)
(100)
0
100
200
300
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Deutsche Telekom United Internet/Freenet
Vodafone KDG
Telefonica Deutschland Unitymedia
44.1% 43.5% 42.7% 41.9% 41.4% 41.2%
6.5% 6.7% 7.0% 7.8% 8.8% 9.8%
33.1% 32.6% 32.0% 30.9% 29.5% 27.8%
15.9% 16.9% 18.0% 19.0% 20.0% 20.9%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
DT retail DT wholesale ULL Cable Other
(300)
(200)
(100)
0
100
200
300
400
500
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
DT retail DT wholesale ULL Cable Other
486
727
945
2,280
0
500
1,000
1,500
2,000
2,500
Bundesliga Ligue 1 Serie A EPL (FY16/17
Onwards)
European Domestic Rights Costs (€m)
5.91
1.04
3.21
1.56
0
1
2
3
4
5
6
7
Sportschau (ARD) Bundesliga
(SkyD)
Match of the Day
Sunday (10pm)
Live Ford Super
Sunday (3.30pm)
Football Audiences (m) - Live vs Broadcast Highlights
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 74 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Italian – Mobile Market Charts
Chart 82: Italian Mobile Market Share by Operator
Source: Jefferies estimates, company data
Chart 83: Italian Mobile Net Adds by Operator
Source: Jefferies estimates, company data
Chart 84: Italian Mobile Service Revenue Growth
Source: Jefferies estimates, company data
Chart 85: Italian Mobile Number Portability
Source: Jefferies estimates, company data
Chart 86: Italian Mobile Churn
Source: Jefferies, company data
Chart 87: Italian Prepaid/Postpaid Split
Source: Jefferies, company data, Agcom
32.8% 32.4% 32.3% 32.0% 32.3% 32.3%
30.1% 29.6% 28.9% 27.5% 26.9% 26.5%
22.6% 23.0% 23.0% 23.0% 22.9% 23.0%
9.8% 9.4% 10.2% 10.5% 10.9% 11.0%
4.7% 5.6% 5.6% 7.1% 7.0% 7.2%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Telecom Italia Vodafone Wind Three Others
(1,500)
(1,000)
(500)
0
500
1,000
1,500
1Q13 3Q13 1Q14 3Q14 1Q15 3Q15
Telecom Italia Vodafone Wind Three Others
-25%
-20%
-15%
-10%
-5%
0%
5%
10%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Vodafone TI WIND 3
(1,500)
(1,000)
(500)
-
500
1,000
1,500
LTM to Q312 LTM to Q313 LTM to Q314 LTM to Q315
Telecom Italia Vodafone Wind Three MVNO
20%
22%
24%
26%
28%
30%
32%
34%
36%
38%
40%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Vodafone TI Wind
80.7% 79.1% 80.2% 78.8% 79.7% 78.1%
19.3% 20.9% 19.8% 21.2% 20.3% 21.9%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q213 Q313 Q413 Q114 Q214 Q314 Q414 Q115 Q215 Q315
Prepaid Postpaid
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 75 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Italian – Fixed Market Charts
Chart 88: Italian Fixed BB Market Share by Operator
Source: Jefferies estimates, company data
Chart 89: Italian Fixed BB Net Adds by Operator
Source: Jefferies estimates, company data
Chart 90: Italian Fixed BB Market Share by Tech
Source: Jefferies estimates, company data
Chart 91: Italian Fixed BB Net Adds by Tech
Source: Jefferies estimates, company data
Chart 92: Percentage of BB Base taking Fibre by Operator
Source: Jefferies, company data
Chart 93: Italian Market Fibre Subs by Operator
Source: Jefferies estimates, company data
50.2% 49.4% 49.0% 48.7% 47.7% 47.3%
16.0% 15.7% 15.6% 15.1% 15.3% 15.3%
13.4% 13.7% 14.0% 14.2% 14.6% 14.7%
12.3% 12.3% 12.6% 12.9% 12.4% 12.7%
8.2% 8.8% 8.7% 9.1% 10.0% 10.0%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Telecom Italia Wind Fastweb Vodafone Others
(100)
(50)
0
50
100
150
200
250
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Telecom Italia Wind Fastweb Vodafone Others
11.0% 10.2% 9.4% 8.5% 7.4% 6.4%
75.2% 74.0% 73.2% 71.9% 70.1% 67.0%
13.8% 15.8% 17.4% 19.6% 22.5% 26.6%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
≤ 2 Mbps 2 Mbps-10 Mbps > 10 Mbps
(300)
(200)
(100)
0
100
200
300
400
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15
≤ 2 Mbps 2 Mbps-10 Mbps > 10 Mbps
2.2%3.3% 4.2%
5.4% 6.2%7.9%
22.3%24.1% 24.5%
26.0%27.6%
0%
5%
10%
15%
20%
25%
30%
3Q14 4Q14 1Q15 2Q15 3Q15
Telecom Italia Vodafone Fastweb
281 291 314
640
777903
1,073
1,226
2.1% 2.1% 2.2%
4.5%5.4%
6.2%7.3%
8.3%
0.0%
10.0%
20.0%
0
500
1,000
1,500
Sep-11 Sep-12 Sep-13 Sep-14 Dec-14 Mar-15 Jun-15 Sep-15
Not Disclosed Vodafone
Fastweb Telecom Italia
NGN lines as % of Tot. BB lines
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 76 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Spanish – Mobile Market Charts
Chart 94: Spanish Post Paid Mobile Market Share
Source: Jefferies estimates, Company data, CNMC, Note: Ono included in Vodafone from 3Q14
Chart 95: Spanish Post Paid Net Adds (‘000)
Source: Jefferies Estimates, Company Data
Chart 96: Spanish Mobile Number Portability by Operator
Source: Jefferies, CNMC, Company Data
Chart 97: Spanish Mobile Pricing Index
Source: Jefferies, CNMC
Chart 98: Spanish TV Market Share by Operator
Source: Jefferies, CNMC, Company Data
Chart 99: Spanish TV Net Adds by Operator
Source: Jefferies, CNMC, Company Data
42%41% 40% 39% 38% 37% 37% 36%36% 36% 36%
24%24% 24% 24% 24% 24% 24% 24%24% 24% 29%
6% 6% 6% 6% 6% 6% 6% 5% 5% 5%5%
27%26% 26% 25% 25% 25% 28% 28% 28% 28%27%
1% 3% 4% 6% 7% 8% 5% 6% 7% 7%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Movistar Orange Yoigo Vodafone Other
(600)
(400)
(200)
0
200
400
600
1Q13 2Q13 3Q13 4Q13 1Q14 2Q14 3Q14 4Q14 1Q15 2Q15 3Q15
Movistar Orange Vodafone Yoigo
(80)
(60)
(40)
(20)
0
20
40
Movistar Vodafone Orange Yoigo
Nov-14 Dec-14 Jan-15 Feb-15 Mar-15 Apr-15 May-15
Jun-15 Jul-15 Aug-15 Sep-15 Oct-15 Nov-15
0
10
20
30
40
50
60
70
80
90
100
Q2
09
Q3
09
Q4
09
Q1
10
Q2
10
Q3
10
Q4
10
Q1
11
Q2
11
Q3
11
Q4
11
Q1
12
Q2
12
Q3
12
Q4
12
Q1
13
Q2
13
Q3
13
Q4
13
Q1
14
Q2
14
Q3
14
Q4
14
Q1
15
Q2
15
Mobile Pricing Index
19% 18% 18% 17% 17% 17% 16% 19% 22%28% 33% 37% 40%
71%41% 41% 41% 43% 43% 44% 44% 43% 42%
38%36% 34% 32%
21% 21% 21% 21% 22% 22% 22% 21% 20% 18% 16% 15% 15% 15%2% 2% 2% 2% 2% 2% 2% 2% 2% 2% 2% 2% 2% 3%18% 18% 18% 17% 16% 16% 16% 15% 15% 14% 13% 12% 11% 11%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Telefonica DTS Ono Orange Other
(100)
0
100
200
300
400
Telefonica DTS Ono Orange Other
Q113 Q213 Q313 Q413 Q114
Q214 Q314 Q414 Q115 Q215
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 77 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Spanish – Fixed Market Charts
Chart 100:Spanish Broadband Market Shares
Source: Jefferies Estimates, CNMC, Company Data
Chart 101: Spanish Broadband Net Adds (‘000)
Source: Jefferies Estimates, CNMC, Company Data. Note: Vodafone Net Adds Adjusted for Ono Acquisition
Chart 102: Spanish Broadband Market Shares by
Technology
Source: Jefferies Estimates, CNMC, Company Data.
Chart 103: Spanish Broadband Net Adds by Tech (‘000)
Source: Jefferies Estimates, CNMC, Company Data
Chart 104: Spanish High Speed Broadband Market Share
Source: Jefferies Estimates, CNMC, Company Data, Note: FTTH/HFC (DOCSIS 3.0) only
Chart 105: Fibre roll out and targets
Source: Jefferies, Company Data
48.9% 48.1% 46.6% 45.6% 44.6% 43.9%
12.5% 13.5% 14.4% 15.0% 15.5%28.0%
11.6% 11.8% 11.8% 11.9% 12.1%
7.0% 7.6% 8.3% 8.9%21.6% 21.9%
13.8% 12.9% 12.8% 12.6%
6.2% 6.2% 6.0% 6.1% 6.2% 6.2%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q313 Q114 Q314 Q115 Q315e
Telefonica Orange Jazztel Vodafone Ono Other
(100)
(50)
0
50
100
150
200
250
300
Telefonica Orange Jazztel Vodafone Ono Other
78% 77% 75% 70% 64%
4% 5% 8% 12%17%
18% 17% 17% 17% 18%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q313 Q114 Q314 Q115 Q315e
DSL FTTH HFC Other
(400)
(300)
(200)
(100)
0
100
200
300
400
500
DSL FTTH HFC
16% 21% 25%32% 37% 39%
1% 3% 3%11%
3%4%
5% 6%
11%10%
9%
8%
6%5%
9%9%
12%
12%9%
8%
64% 60%53% 46%
40% 37%
0%
10%
20%
30%
40%
50%
60%
70%
80%
90%
100%
Q113 Q313 Q114 Q314 Q115 Q315e
Telefonica Orange Jazztel Euskatel Other Ono Vodafone
11.512.5 13.4
14.0
17.0
20.0
5.25.4
10.0
14.0
3.6 4.0
0.9 1.0
7.9 7.9 8.08.9
0
5
10
15
20
Mar 2015 Jun 2015 Sep 2015 Dec 2015 Dec 2016 Dec 2017 Dec 2020
Telefonica Orange (inc. Jazztel)
Jazztel Orange
Vodafone-Ono
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 78 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Updated Forecasts
Table 30: Vodafone SOTP Valuation Total
EV
Equity
stake
Value to
VOD
Per
share
% total
EV
Method Prop
EBITDA
Prop
EBITDA
EV/
EBITDA
EV/
EBITDA
Prop
OpFCF
EV/
OpFCF
(£m) (£m) (p) 16/17e 17/18e 16/17e 17/18e 16/17e 16/17e
Germany 20,831 100.0% 20,831 78.8 23.5% Multiple 2,777 2,807 7.5x 7.4x 1,552 13.4x
Italy 12,871 100.0% 12,871 48.7 14.5% Multiple 1,609 1,665 8.0x 7.7x 890 14.5x
UK 7,059 100.0% 7,059 26.7 8.0% Multiple 1,177 1,136 6.0x 6.2x 433 16.3x
Spain 5,795 100.0% 5,795 21.9 6.5% Multiple 892 912 6.5x 6.4x 285 20.4x
Netherlands 3,543 100.0% 3,543 13.4 4.0% Multiple 506 518 7.0x 6.8x 301 11.8x
Portugal 1,849 100.0% 1,849 7.0 2.1% Multiple 264 267 7.0x 6.9x 132 14.0x
Greece 1,441 99.9% 1,440 5.4 1.6% Multiple 192 200 7.5x 7.2x 113 12.7x
Other Europe 4,246 100.0% 4,246 16.1 4.8% Multiple 607 628 7.0x 6.8x 298 14.3x
Europe 57,636 57,635 218.0 64.9% 8,023 8,134 7.2x 7.1x 4,004 14.4x
India 10,698 100.0% 10,698 40.5 12.1% Multiple 1,528 1,653 7.0x 6.5x 838 12.8x
Vodacom 11,827 65.0% 7,688 29.1 8.7% Multiple 904 969 8.5x 7.9x 626 12.3x
Turkey 3,941 100.0% 3,941 14.9 4.4% Multiple 464 567 8.5x 6.9x 185 21.3x
Egypt 3,831 54.9% 2,103 8.0 2.4% Multiple 324 343 6.5x 6.1x 169 12.4x
Other AMAP 2,141 100.0% 2,141 8.1 2.4% Multiple 329 315 6.5x 6.8x 82 26.0x
Kenya 4,430 40.0% 1,772 6.7 2.0% Market na na na na na na
Indus Towers 12,857 42.0% 5,400 20.4 6.1% Divi GM 300 na 18.0x na na na
Vodafone Hutchison Australia 2,757 50.0% 1,379 5.2 1.6% Multiple na na na na na na
AMAP 52,483 35,122 132.8 39.6% 3,549 3,846 9.9x 9.1x 1,902 18.5x
NPV of ordinary Common fcns capex (4,000) (15.1) -4.5% Multiple (100) (104) (500) 8.0x
Enterprise value 88,757 335.7 100.0% 11,473 11,877 7.7x 7.5x 5,405 16.4x
VZ loan note 3,547 13.4
NPV of post Mar17 deferred tax asset 6,000 22.7
Indian contingent tax liability - 0.0
Proportionate net debt, Mar17e (32,285) (122.1)
Equity value 66,020 250
Sharecount, Mar17 (m) 26,439
Value per share (p) 250
Source: Jefferies estimates, company data
VOD LN
Rating | Target | Estimate Change
26 January 2016
page 79 of 91 , Equity Analyst, +44 (0) 20 7029 8517, [email protected] Dellis
Please see important disclosure information on pages 86 - 91 of this report.
Table 31: Vodafone Divisional Total Revenue Forecasts y/e March 1H 14/15 2H 14/15 1H 15/16 2H 15/16e FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
Europe
Germany 4,290 4,094 3,822 3,928 8,384 7,750 8,169 8,257 8,347
Italy 2,332 2,255 2,112 2,155 4,587 4,267 4,494 4,562 4,632
UK 3,006 3,193 3,086 3,177 6,199 6,263 6,192 6,139 6,087
Spain 1,674 1,940 1,792 1,790 3,614 3,582 3,794 3,882 3,988
Other Europe
Netherlands 751 731 693 709 1,482 1,402 1,467 1,481 1,494
Portugal 402 365 354 347 767 701 734 741 747
Greece 275 301 311 322 576 633 686 703 717
Other 1,101 1,067 1,021 1,048 2,168 2,069 2,206 2,244 2,282
Total Other Europe 2,529 2,464 2,379 2,427 4,993 4,806 5,093 5,169 5,241
Intra-region eliminations (40) (50) (60) (50) (90) (110) (114) (116) (117)
Total Europe 13,791 13,896 13,131 13,427 27,687 26,558 27,628 27,894 28,177
Africa, Middle East
and Asia Pacific
India 2,053 2,256 2,221 2,320 4,309 4,541 4,930 5,247 5,573
Vodacom 2,102 2,239 2,071 1,825 4,341 3,896 3,568 3,726 3,880
Other AMAP
Turkey 968 1,058 1,041 1,020 2,026 2,061 2,319 2,578 2,822
Egypt 544 646 589 674 1,190 1,263 1,403 1,486 1,573
Other 752 775 696 737 1,527 1,433 1,373 1,312 1,254
Total Other AMAP 2,264 2,479 2,326 2,432 4,743 4,758 5,095 5,376 5,649
Intra-region eliminations - (11) (7) (11) (11) (18) (19) (20) (21)
Total AMAP 6,419 6,963 6,611 6,567 13,382 13,177 13,574 14,329 15,082
Other 562 695 569 620 1,257 1,189 1,233 1,263 1,294
Inter-region eliminations (20) (79) (45) (75) (99) (120) - - -
Group 20,752 21,475 20,266 20,538 42,227 40,803 42,435 43,487 44,553
Source: Jefferies estimates, company data
Table 32: Vodafone Divisional EBITDA Forecasts y/e March 1H 14/15 2H 14/15 1H 15/16 2H 15/16e FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
Europe
Germany 1,382 1,277 1,250 1,268 2,659 2,518 2,777 2,807 2,838
Italy 786 749 720 744 1,535 1,464 1,609 1,665 1,691
UK 638 707 669 615 1,345 1,284 1,177 1,136 1,126
Spain 307 475 474 408 782 882 892 912 937
Other Europe
Netherlands 269 238 242 230 507 472 506 518 530
Portugal 157 132 128 122 289 250 264 267 269
Greece 76 82 82 87 158 169 192 200 204
Other 330 289 282 273 619 555 607 628 639
Total Other Europe 832 741 734 712 1,573 1,446 1,569 1,614 1,643
Intra-region eliminations - - - - - - - - -
Total Europe 3,945 3,949 3,847 3,747 7,894 7,594 8,024 8,134 8,234
Africa, Middle East
and Asia Pacific
India 607 675 660 696 1,282 1,356 1,528 1,653 1,783
Vodacom 735 792 769 684 1,527 1,453 1,391 1,490 1,552
Other AMAP
Turkey 182 184 199 184 366 383 464 567 649
Egypt 245 277 249 283 522 532 589 624 661
Other 176 213 149 195 389 344 329 315 301
Total Other AMAP 603 674 597 662 1,277 1,259 1,383 1,506 1,611
Intra-region eliminations - - - - - - - - -
Total AMAP 1,945 2,141 2,026 2,043 4,086 4,069 4,302 4,649 4,946
Other (6) (59) (87) (30) (65) (117) (100) (104) (107)
Group 5,884 6,031 5,786 5,760 11,915 11,546 12,226 12,680 13,074
Source: Jefferies estimates, company data
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Table 33: Vodafone Divisional EBITDA Margin Forecasts y/e March 1H 14/15 2H 14/15 1H 15/16 2H 15/16e FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
Europe
Germany 32.2% 31.2% 32.7% 32.3% 31.7% 32.5% 34.0% 34.0% 34.0%
Italy 33.7% 33.2% 34.1% 34.5% 33.5% 34.3% 35.8% 36.5% 36.5%
UK 21.2% 22.1% 21.7% 19.4% 21.7% 20.5% 19.0% 18.5% 18.5%
Spain 18.3% 24.5% 26.5% 22.8% 21.6% 24.6% 23.5% 23.5% 23.5%
Other Europe
Netherlands 35.8% 32.6% 34.9% 32.5% 34.2% 33.7% 34.5% 35.0% 35.5%
Portugal 39.1% 36.2% 36.2% 35.0% 37.7% 35.6% 36.0% 36.0% 36.0%
Greece 27.6% 27.2% 26.4% 27.0% 27.4% 26.7% 28.0% 28.5% 28.5%
Other 30.0% 27.1% 27.6% 26.0% 28.6% 26.8% 27.5% 28.0% 28.0%
Total Other Europe 32.9% 30.1% 30.9% 29.3% 31.5% 30.1% 30.8% 31.2% 31.3%
Intra-region eliminations
Total Europe 28.6% 28.4% 29.3% 27.9% 28.5% 28.6% 29.0% 29.2% 29.2%
Africa, Middle East
and Asia Pacific
India 29.6% 29.9% 29.7% 30.0% 29.8% 29.9% 31.0% 31.5% 32.0%
Vodacom 35.0% 35.4% 37.1% 37.5% 35.2% 37.3% 39.0% 40.0% 40.0%
Other AMAP
Turkey 18.8% 17.4% 19.1% 18.0% 18.1% 18.6% 20.0% 22.0% 23.0%
Egypt 45.0% 42.9% 42.3% 42.0% 43.9% 42.1% 42.0% 42.0% 42.0%
Other 23.4% 27.5% 21.4% 26.5% 25.5% 24.0% 24.0% 24.0% 24.0%
Total Other AMAP 26.6% 27.2% 25.7% 27.2% 26.9% 26.5% 27.1% 28.0% 28.5%
Intra-region eliminations
Total AMAP 30.3% 30.7% 30.6% 31.1% 30.5% 30.9% 31.7% 32.4% 32.8%
Group 28.4% 28.1% 28.6% 28.0% 28.2% 28.3% 28.8% 29.2% 29.3%
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Table 35: Vodafone Adjusted Statutory P&L Forecasts y/e March 1H 14/15 2H 14/15 1H 15/16 2H 15/16e FY 13/14 FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
Group Revenue 20,752 21,475 20,266 20,538 38,346 42,227 40,803 42,435 43,487 44,553
Group EBITDA 5,884 6,031 5,786 5,760 11,084 11,915 11,546 12,226 12,680 13,074
EBITDA margin 28.4% 28.1% 28.6% 28.0% 28.9% 28.2% 28.3% 28.8% 29.2% 29.3%
Depreciation and amortisation (4,091) (4,254) (4,142) (4,287) (7,098) (8,345) (8,429) (8,687) (8,595) (8,477)
Share of result in associates (37) (26) (3) 31 324 (63) 28 63 72 79
Adjusted operating profit 1,756 1,751 1,641 1,503 4,310 3,507 3,144 3,602 4,157 4,675
Adjusted operating profit margin 8.5% 8.2% 8.1% 7.3% 11.2% 8.3% 7.7% 8.5% 9.6% 10.5%
Net financing costs (682) (608) (552) (713) (1,130) (1,290) (1,265) (1,341) (1,404) (1,398)
Adjusted profit before taxation 1,074 1,143 1,089 791 3,180 2,217 1,880 2,261 2,753 3,277
Adjusted PBT margin 5.2% 5.3% 5.4% 3.8% 8.3% 5.3% 4.6% 5.3% 6.3% 7.4%
Tax expense (288) (281) (299) (277) (929) (569) (576) (610) (743) (885)
ETR 26.8% 24.6% 27.5% 35.0% 29.2% 25.7% 30.6% 27.0% 27.0% 27.0%
Non-controlling interests (89) (88) (123) (62) (216) (177) (185) (195) (213) (227)
Adjusted net income 697 774 667 451 2,035 1,471 1,118 1,455 1,797 2,165
Adjusted EPS 2.63p 2.92p 2.51p 1.70p 7.69p 5.55p 4.22p 5.50p 6.80p 8.19p
DPS 11.00p 11.22p 11.44p 11.79p 12.14p 12.51p
y/y Growth 7.9% 2.0% 2.0% 3.0% 3.0% 3.0%
Adding back Project Spring opex
Project Spring operating costs - 500 300 - - -
EBITDA clean of Project Spring opex 11,084 12,415 11,846 12,226 12,680 13,074
Effective tax rate 32.9% 29.4% 32.4% 27.0% 27.0% 27.0%
Project Spring opex net of tax shield - 353 203 - - -
Net profit clean of Project Spring opex 2,035 1,824 1,321 1,455 1,797 2,165
Adj basic EPS clean of Project Spring opex 7.69p 6.89p 4.98p 5.50p 6.80p 8.19p
Source: Jefferies estimates, company data
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Table 36: Vodafone Balance Sheet Forecasts y/e March FY 13/14 FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
Non-current assets
Goodwill 23,315 22,537 22,537 22,537 22,537 22,537
Other intangible assets 23,373 20,953 25,216 23,823 23,127 22,065
Property, plant and equipment 22,851 26,603 28,130 27,655 26,949 26,249
Investments in associates 114 (3) 25 88 160 239
Other investments 3,553 3,757 3,967 3,977 3,987 3,997
Deferred tax assets 20,607 23,845 20,600 20,600 20,600 20,600
Post employment benefits 35 169 35 35 35 35
Trade and other receivables 3,270 4,865 3,400 3,400 3,400 3,400
Total Non-Current Assets 97,118 102,726 103,910 102,115 100,795 99,121
Current assets
Inventory 441 482 500 500 500 500
Taxation recoverable 808 575 800 800 800 800
Trade and other receivables 8,886 8,053 8,831 9,068 9,174 9,277
Other investments 4,419 3,855 4,000 4,000 4,000 4,000
Cash and cash equivalents 10,134 6,882 3,000 3,000 3,000 3,000
Assets held for sale 34 - - - - -
Total Current Assets 24,722 19,847 17,131 17,368 17,474 17,577
Total assets 121,840 122,573 121,042 119,483 118,269 116,698
Equity
Called up share capital 3,792 3,792 3,792 3,792 3,792 3,792
Additional paid-in capital 116,973 117,054 154,199 154,199 154,199 154,199
Treasury shares (7,187) (7,045) (7,913) (7,913) (7,913) (7,913)
Retained losses (51,428) (49,471) (92,891) (94,873) (96,227) (97,330)
Accumulated other comprehensive income 8,652 1,815 8,500 8,500 8,500 8,500
Total equity shareholders’ funds 70,802 66,145 65,687 63,705 62,351 61,248
Non-controlling interests 1,733 1,595 1,595 1,595 1,595 1,595
Put options over non-controlling interests (754) (7) (833) (833) (833) (833)
Total non-controlling interests 979 1,588 762 762 762 762
Total equity 71,781 67,733 66,449 64,467 63,113 62,010
Non-current liabilities
Long-term borrowings 21,454 22,435 31,994 31,993 31,955 31,284
Taxation liabilities 50 - 200 200 200 200
Deferred tax liabilities 747 595 (2,921) (2,921) (2,921) (2,921)
Post employment benefits 584 567 350 350 350 350
Provisions 846 1,082 650 650 650 650
Trade and other payables 1,339 1,264 900 900 900 900
Total Non-Current Liabilities 25,020 25,943 31,173 31,172 31,134 30,463
Current liabilities
Short-term borrowings 7,747 12,623 7,440 7,738 7,930 8,124
Taxation liabilities 873 599 870 870 870 870
Provisions 963 767 1,000 1,000 1,000 1,000
Trade and other payables 15,456 14,908 14,109 14,237 14,223 14,231
Total liabilities associated with assets classified as
held for sale
- - - - - -
Total Current Liabilities 25,039 28,897 23,419 23,844 24,023 24,226
Total equity and liabilities 121,840 122,573 121,042 119,483 118,269 116,698
Source: Jefferies estimates, company data
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Table 37: Vodafone Cash Flow and Net Debt Forecasts y/e March FY 13/14 FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
Adj. EBITDA 11,084 11,915 11,546 12,226 12,680 13,074
Working capital movement 1,181 (883) (300) (100) (100) (100)
Restructuring costs & other (2,589) (559) (250) (150) (150) (150)
Cash generated from operations 9,676 10,473 10,996 11,976 12,430 12,824
Tax paid (3,449) (758) (979) (800) (743) (885)
Net cash flow from operating activities 6,227 9,715 10,017 11,176 11,687 11,939
Cash flows from investing activities
Purchase of interests in subsidiaries and JV's (4,279) (3,093) - - - -
Purchase of interests in associates (11) (85) - - - -
Purchase of intangible assets (incl. spectrum) (2,327) (2,315) (7,478) (2,060) (2,438) (2,000)
Purchase of property, plant and equipment (4,396) (6,568) (6,491) (4,908) (4,705) (4,665)
Purchase of investments (214) (207) - - - -
Disposal of interests in subsidiaries and JV's - - - - - -
Disposal of interests in associates 34,919 27 - - - -
Disposal of property, plant and equipment 79 178 - - - -
Disposal of investments 1,483 899 200 - - -
Dividends received from associates 4,897 583 (10) (10) (10) (10)
Dividends received from investments 10 - 10 10 10 10
Interest received 582 254 54 45 45 45
Taxation on investing activities - - - - - -
Net cash flow from investing activities 30,743 (10,327) (13,715) (6,924) (7,098) (6,620)
Cash flows from financing activities
Issue of ordinary share capital and reissue of treasury shares 38 18 - - - -
Net movement in short-term borrowings (2,887) 4,722 - - - -
Proceeds from issue of long-term borrowings 1,060 2,432 - - - -
Repayment of borrowings (9,788) (4,070) 4,082 200 45 (595)
Purchase of treasury shares (1,033) - - - - -
Equity dividends paid (19,367) (2,927) (3,026) (3,117) (3,210) (3,306)
Dividends paid to non-controlling interests in subsidiaries (264) (247) - - - -
Other transactions with non-controlling interests in subsidiaries (111) (718) - - - -
Other movements in loans with associates and joint ventures - (52) - - - -
Interest paid (1,897) (1,576) (1,219) (1,336) (1,423) (1,417)
Net cash flow from financing activities (34,249) (2,418) (163) (4,252) (4,588) (5,318)
Net cash flow 2,721 (3,030) (3,861) - - -
Cash and cash equivalents at beginning of the financial period 7,506 10,112 6,861 3,000 3,000 3,000
Exchange loss on cash and cash equivalents (115) (221) - - - -
Cash and cash equivalents at end of the financial period 10,112 6,861 3,000 3,000 3,000 3,000
GROUP NET DEBT (£m)
Cash and cash equivalents 10,134 6,882 3,000 3,000 3,000 3,000
Bank overdrafts - - - - - -
Cash and cash equivalents for discont operations - - - - - -
Other financial instruments 5,367 5,905 5,905 5,905 5,905 5,905
Short-term borrowings (7,747) (12,623) (7,440) (7,738) (7,930) (8,124)
Long-term borrowings (21,454) (22,435) (31,994) (31,993) (31,955) (31,284)
Net (debt)/cash (13,700) (22,271) (30,529) (30,825) (30,979) (30,503)
Statutory net debt-to-EBITDA 1.24x 1.87x 2.64x 2.52x 2.44x 2.33x
Source: Jefferies estimates, company data
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Table 38: Vodafone FCF and Dividend Cover Forecasts y/e March FY 13/14 FY 14/15 FY 15/16e FY 16/17e FY 17/18e FY 18/19e
EBITDA 11,084 11,915 11,546 12,226 12,680 13,074
Working capital 1,181 (883) (300) (100) (100) (100)
Cash generated by operations 12,265 11,032 11,246 12,126 12,580 12,974
Cash capital expenditure (5,857) (8,435) (8,655) (6,544) (6,273) (6,219)
o/w Cash expenditure (6,313) (9,197) (8,855) (6,344) (6,273) (6,219)
o/w Working capital movement in respect of capex 456 762 200 (200) - -
Disposal of property, plant and equipment 79 178 - - - -
Operating free cash flow 6,487 2,775 2,591 5,582 6,307 6,754
Taxation (3,449) (758) (979) (800) (743) (885)
Dividends from associates and investments 2,842 224 - - - -
Dividends paid to minority s/holders in subsidiaries (264) (246) (150) (158) (172) (184)
Interest received and paid (1,315) (995) (1,165) (1,291) (1,379) (1,373)
Headline FCF 4,301 1,000 297 3,333 4,013 4,313
Restructuring costs / other 92 88 (250) (150) (150) (150)
FCF after restructuring costs 4,393 1,088 47 3,183 3,863 4,163
Licence and spectrum payments (862) (443) (5,315) (424) (870) (446)
Acquisitions and disposals 27,372 (7,040) - - - -
Equity dividends paid (5,076) (2,927) (2,991) (3,055) (3,147) (3,241)
Special dividend (14,291) - - - - -
Purchase of treasury shares (1,033) - - - - -
Foreign exchange 2,423 895 - - - -
Income dividend from VZW 2,065 - - - - -
Other (3,337) (144) - - - -
Net debt decrease/(increase) 11,654 (8,571) (8,258) (296) (154) 476
Opening net debt (25,354) (13,700) (22,271) (30,529) (30,825) (30,979)
Closing net debt (13,700) (22,271) (30,529) (30,825) (30,979) (30,503)
Project Spring (Add Back)
Incremental opex - 500 300 - - -
Incremental capex 500 3,500 3,500 - - -
Change in capex creditor (456) (762) (200) 200 - -
Tax shield on incremental opex - (147) (97) - - -
FCF clean of Project Spring investment 4,345 4,091 3,800 3,533 4,013 4,313
Dividend Pay-Out
DPS 11.00p 11.22p 11.44p 11.79p 12.14p 12.51p
y/y growth 7.9% 2.0% 2.0% 3.0% 3.0% 3.0%
Closing share count (ex. Treasury) 26,438 26,439 26,439 26,439 26,439 26,439
Dividend commitment 2,908 2,966 3,026 3,117 3,210 3,306
Dividend commitment as % Headline FCF 68% 297% 1018% 94% 80% 77%
Source: Jefferies estimates, company data
Table 39: Summary Changes to Estimates Forecasts (£m) FY 15/16eE
New
FY 15/16eE
Old
% Chg FY 16/17eE
New
FY 16/17eE
Old
% Chg
Revenue 40,803 40,883 -0.2% 42,435 41,854 1.4%
EBITDA 11,546 11,544 0.0% 12,226 12,024 1.7%
Adjusted operating profit 3,144 2,991.95 5.1% 3,602 3,718.69 -3.1%
Adj basic EPS clean of Project Spring opex (p) 4.98 4.04 23.3% 5.50 4.62 19.2%
Drivers of Change Updated pre 3Q15/16 Results
Source: Jefferies estimates, company data
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Company DescriptionVodafone is a leading global mobile operator with more than 340m proportionate customers around the world. In recent years Vodafone hasadded to its core European business with emerging market acquisitions, notably in India and South Africa. Vodafone is increasingly offeringintegrated fixed and mobile services, and owns fixed-line infrastructure in some markets.
Analyst Certification:I, Jerry Dellis, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Nicholas Prys-Owen, certify that all of the views expressed in this research report accurately reflect my personal views about the subjectsecurity(ies) and subject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specificrecommendations or views expressed in this research report.I, Ulrich Rathe, CFA, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.I, Giles Thorne, certify that all of the views expressed in this research report accurately reflect my personal views about the subject security(ies) andsubject company(ies). I also certify that no part of my compensation was, is, or will be, directly or indirectly, related to the specific recommendationsor views expressed in this research report.Registration of non-US analysts: Jerry Dellis is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
Registration of non-US analysts: Nicholas Prys-Owen is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Ulrich Rathe, CFA is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is notregistered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, andtherefore may not be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, publicappearances and trading securities held by a research analyst.
Registration of non-US analysts: Giles Thorne is employed by Jefferies International Limited, a non-US affiliate of Jefferies LLC and is not registered/qualified as a research analyst with FINRA. This analyst(s) may not be an associated person of Jefferies LLC, a FINRA member firm, and therefore maynot be subject to the NASD Rule 2711 and Incorporated NYSE Rule 472 restrictions on communications with a subject company, public appearancesand trading securities held by a research analyst.
As is the case with all Jefferies employees, the analyst(s) responsible for the coverage of the financial instruments discussed in this report receivescompensation based in part on the overall performance of the firm, including investment banking income. We seek to update our research asappropriate, but various regulations may prevent us from doing so. Aside from certain industry reports published on a periodic basis, the large majorityof reports are published at irregular intervals as appropriate in the analyst's judgement.
Company Specific DisclosuresJefferies makes a market in Deutsche Telekom.Jefferies Group LLC makes a market in the securities or ADRs of Vodafone plc.
Explanation of Jefferies RatingsBuy - Describes securities that we expect to provide a total return (price appreciation plus yield) of 15% or more within a 12-month period.Hold - Describes securities that we expect to provide a total return (price appreciation plus yield) of plus 15% or minus 10% within a 12-month period.Underperform - Describes securities that we expect to provide a total return (price appreciation plus yield) of minus 10% or less within a 12-monthperiod.The expected total return (price appreciation plus yield) for Buy rated securities with an average security price consistently below $10 is 20% or morewithin a 12-month period as these companies are typically more volatile than the overall stock market. For Hold rated securities with an averagesecurity price consistently below $10, the expected total return (price appreciation plus yield) is plus or minus 20% within a 12-month period. ForUnderperform rated securities with an average security price consistently below $10, the expected total return (price appreciation plus yield) is minus20% or less within a 12-month period.NR - The investment rating and price target have been temporarily suspended. Such suspensions are in compliance with applicable regulations and/or Jefferies policies.CS - Coverage Suspended. Jefferies has suspended coverage of this company.NC - Not covered. Jefferies does not cover this company.Restricted - Describes issuers where, in conjunction with Jefferies engagement in certain transactions, company policy or applicable securitiesregulations prohibit certain types of communications, including investment recommendations.Monitor - Describes securities whose company fundamentals and financials are being monitored, and for which no financial projections or opinionson the investment merits of the company are provided.
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Valuation MethodologyJefferies' methodology for assigning ratings may include the following: market capitalization, maturity, growth/value, volatility and expected totalreturn over the next 12 months. The price targets are based on several methodologies, which may include, but are not restricted to, analyses of marketrisk, growth rate, revenue stream, discounted cash flow (DCF), EBITDA, EPS, cash flow (CF), free cash flow (FCF), EV/EBITDA, P/E, PE/growth, P/CF,P/FCF, premium (discount)/average group EV/EBITDA, premium (discount)/average group P/E, sum of the parts, net asset value, dividend returns,and return on equity (ROE) over the next 12 months.
Jefferies Franchise PicksJefferies Franchise Picks include stock selections from among the best stock ideas from our equity analysts over a 12 month period. Stock selectionis based on fundamental analysis and may take into account other factors such as analyst conviction, differentiated analysis, a favorable risk/rewardratio and investment themes that Jefferies analysts are recommending. Jefferies Franchise Picks will include only Buy rated stocks and the numbercan vary depending on analyst recommendations for inclusion. Stocks will be added as new opportunities arise and removed when the reason forinclusion changes, the stock has met its desired return, if it is no longer rated Buy and/or if it triggers a stop loss. Stocks having 120 day volatility inthe bottom quartile of S&P stocks will continue to have a 15% stop loss, and the remainder will have a 20% stop. Franchise Picks are not intendedto represent a recommended portfolio of stocks and is not sector based, but we may note where we believe a Pick falls within an investment stylesuch as growth or value.
Risks which may impede the achievement of our Price TargetThis report was prepared for general circulation and does not provide investment recommendations specific to individual investors. As such, thefinancial instruments discussed in this report may not be suitable for all investors and investors must make their own investment decisions basedupon their specific investment objectives and financial situation utilizing their own financial advisors as they deem necessary. Past performance ofthe financial instruments recommended in this report should not be taken as an indication or guarantee of future results. The price, value of, andincome from, any of the financial instruments mentioned in this report can rise as well as fall and may be affected by changes in economic, financialand political factors. If a financial instrument is denominated in a currency other than the investor's home currency, a change in exchange rates mayadversely affect the price of, value of, or income derived from the financial instrument described in this report. In addition, investors in securities suchas ADRs, whose values are affected by the currency of the underlying security, effectively assume currency risk.
Other Companies Mentioned in This Report• BT plc (BT/A LN: p471.00, BUY)• Deutsche Telekom (DTE GR: €15.88, HOLD)• Orange S.A. (ORA FP: €15.80, BUY)• Telefonica (TEF SM: €9.42, UNDERPERFORM)
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Distribution of RatingsIB Serv./Past 12 Mos.
Rating Count Percent Count Percent
BUY 1173 54.66% 337 28.73%HOLD 814 37.93% 165 20.27%UNDERPERFORM 159 7.41% 18 11.32%
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