Four years ago, the UK telecoms market was completely reshaped when incumbent telco BT acquired the country’s largest MNO, EE. That created a very powerful quad play operator with clear leadership in fixed and mobile services, and its own pay-TV offering too. At the same time, however, regulators blocked a bid by Hutchison and Telefónica to merge their respective UK MNOs, Three and O2. The grounds were that this would reduce the number of MNOs from four to three, whereas the BT transaction would not – so Three and O2 were left to compete separately against a significantly more powerful BT, and Telefónica was forced to stay in an overly competitive market it had clearly wanted to exit.
If those rulings showed that antitrust authorities had not really caught up with the new competitive landscape based on quad play, Telefónica may now get its revenge. BT’s share price fell when a proposed 50:50 merger, worth £31bn, between O2 UK and the country’s largest cableco, Virgin Media, was announced. Using rather similar language to the words that accompanied the BT/EE marriage, Virgin’s parent, Liberty Global, said this would mark “the emergence of a new national champion” for the UK.
This will also be a blow to Vodafone, which has often been rumored to be looking for a joint venture with Liberty/Virgin in the UK, on the lines of deals the two companies have struck in other markets such as The Netherlands. Now the UK will have a second operator with significant national networks on both the fixed and mobile side, plus a major presence in the pay-TV space.
On one hand, the deal, if approved, will mean less competition in the UK, but on the other, it does provide BT with a meaningful quad play rival. Currently, Vodafone is the only other MNO with any significant wireline infrastructure, courtesy of its acquisition of C&W Worldwide and various partnerships with companies like CityFibre. But these are dwarfed by BT’s scale and reach, and meanwhile, the other two MNOs are mobile-only, and Virgin Media and the other major pay-TV player, Sky, offer mobile services only through MVNO deals.
That has left BT in pole position, even though it has been forced by regulator Ofcom to keep its wholesale fiber operations, Openreach, at arm’s length from its retail business in recent years, and provide non-discriminatory access for all players to Openreach’s network. But that is still unsatisfactory for non-fiber owners, compared to either ownership, or a fully neutral wholesale fiber platform.
Virgin Media has over 5.5m broadband and cable TV subscribers, plus more than 3m mobile customers via its MVNO. O2 is the second largest MNO in terms of retail subscribers, with about 26m to EE’s 29m, but is the biggest MNO when wholesale and MVNO users are also taken into account – that brings O2’s total to 34m thanks to brands like Giffgaff (its inhouse MVNO), Sky Mobile and Tesco Mobile. However, it has no TV presence and a minimal broadband footprint of just 29,000 customers.
News of the proposed merger arrived in tandem with Liberty Global’s latest results. Virgin Media’s TV struggles continued with 65,600 video subscriber cancellations in the first quarter, shrinking further to a base of 3.62m. Internet customers continued to climb though, gaining 8,200 in the quarter to reach nearly 5.3m, while the mobile business grew by 40,900 subscribers to surpass 3.2m.
As well as uniting those customer bases, O2 and Virgin Media say they plan to spend £10bn over five years on expanding gigabit broadband and 5G infrastructure (always a good way to encourage regulatory approval for a merger). That could make their combined network attractive compared to those of the non-converged players, and enable them to differentiate against that of BT/EE, at least in certain targeted areas or customer bases.
In a joint statement the two operators announced that O2 would be “transferred into the joint venture on a debt-free basis, while Virgin Media to be contributed with £11.3bn of net debt and debt-like items.” Telefónica will receive £5.7bn and Liberty Global £1.4bn, though the new entity will start life with £18bn in long term debt.
Telefónica’s CEO, José María Álvarez-Pallete, was keen to dampen speculation that this might be a first step to a welcome exit from a UK market that is highly saturated and about to leave the European Union. He said the UK was “one of the most attractive markets on earth… even considering Brexit” and added: “We are both coming to the joint venture with the expectation we will remain partners. We don’t come into this with the expectation that we will turn right or left at a certain point of time.” But he did hint at a later IPO, saying that if a stock market listing were to “come down the road, it can provide a transparency of value and give people the chance to own part of a national champion,” perhaps in as few as three years’ time.
The new partners say merged operations will deliver proposed synergies of £6.2bn ($7.7bn) and an investment of £10bn ($12.4bn) into the UK market over the next five years.
The merged company will have an eight-member board of directors, four from Liberty Global and four from Telefónica. The chairman’s post will rotate every two years and Mike Fries will be the first in the role.
Of course, competition regulators may still scupper the deal, or there could be a counter-offer from Virgin Media’s previous suitor, Vodafone. But while Liberty shareholders might be tempted by a strong Vodafone offer, as they have been recently in Germany and Eastern Europe, that deal would be less likely to satisfy regulators. Vodafone has about 2.9m fixed broadband subscribers in the UK and some 18m mobile customers, so Vodafone/Virgin Media would clearly be too powerful in fixed broadband, pay-TV and mobile.
Virgin Media has been actively driving its own fixed/mobile convergence strategy through its MVNO service, which runs on the EE mobile network. And in September 2019, Liberty Global teamed up with rival Sky to launch a new subsidiary called Liberty Fibre. This established a collaboration which could see Sky swap its current wholesale partner Openreach for Virgin Media.
In short, Sky and Liberty – two fierce video rivals – are buddying up to take on BT in a move which is sure to ruffle some regulatory feathers. Liberty Fibre wants to roll out full-fiber network infrastructure in rural areas, in a project which requires some serious financial backing, so having Sky on board as an investor as well as a wholesale customer would be a brilliant bit of business by Liberty.