Telecoms face mounting pressure to consolidate

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Vodafone’s network in its home market was once considered sacrosanct for a company that spread from Newbury to all corners of the world. Yet the plan to merge its UK business with smaller rival Three is the latest step to get its sprawling house in order. 

Vodafone and CK Hutchison’s Three have been here before. They engineered an equal-split merger in Australia in 2009, which acts as a precursor to this proposed deal. 

It did not go well. The term “Vodafail” entered the Australian vernacular as the merger was mishandled and a network meltdown enraged the locals. The combined company lost a staggering 1mn customers — or almost 20 per cent of the base — as the dream of creating a stronger player receded into the reality of running a company placed a distant third in a three-player market. 

The Australian deal nonetheless became a template for markets including the US, Germany, Italy and Ireland, where regulators were swayed by arguments that consolidation into a telecoms triumvirate market structure would create stronger mobile telecoms players better able to invest in new 4G and 5G networks.

That “four-to-three” trend signalled the start of the death throes of the global aspirations of telecoms companies that a decade earlier had planted flags. The cost and bureaucracy of running networks stretching from San Francisco to Soweto to Sydney to Suva, as Vodafone did, overwhelmed those ambitions. In-market consolidation became the order of the day.

Britain has been slow to join the party, largely because its four-to-three trend was stopped in its tracks when the merger of O2 and Three in 2016 was blocked on competition grounds. The Vodafone-Three proposal, and the merger of Orange and MasMovil in Spain, will test whether the regulatory mood in Europe has changed.

Vodafone has learnt the lessons from its Australian troubles more than a decade ago. It will hold a 51 per cent stake in the combined UK business, which means it will retain control of the network in its home market. That was not the case in Australia where a former Hutchison executive presided over the Vodafail era that only really ended when the mobile company was folded into local broadband company TPG. 

It also provides an acid test over the impact of the merger on consumers. Vodafone, Three and TPG’s combination did not trigger a sharp rise in the cost of telecoms in the already pricey Australian market, according to analysts. They argue that the companies would have been unlikely to survive as standalone businesses, so combining them at least preserved competition.

Arguably the biggest winner from the concentration of telecoms players was Telstra, the incumbent, which has grown its market value to A$49bn (£25bn) compared with the £20bn that the entire Vodafone Group now commands and the £11bn value of its British equivalent BT. 

Vodafone and Three had a 26 per cent share of the Australian mobile market when they merged but that has dwindled to 18 per cent, according to New Street Research, as a collapse in tourist and international student numbers during Covid-19 hit it harder than its rivals. Telstra, meanwhile, remains a dominant force with 50 per cent of the market while Singtel-owned Optus has 32 per cent. 

More worrying is that only Telstra is covering its cost of capital with Optus and Vodafone/TPG achieving returns on invested capital of only 1.2 per cent, according to New Street. Even in a three-player market, the going is tough.

That point was underlined even further this week when TPG said it was in talks to sell its fibre assets to a Macquarie-owned rival for A$6bn to reduce debt. The sale will strengthen its balance sheet, but analysts pondered what the company will stand for in the future given that it will have undone the benefits of bringing mobile and fixed-line networks under one roof.

Some executives at Vodafone have privately argued for years that markets such as Australia can only really support two healthy players because of the market size, geography and the power of Telstra. Competition from cloud players including Amazon and Microsoft is building in the once-lucrative enterprise telecoms market. And there is the looming threat of low-earth orbiting satellite players such as OneWeb and Elon Musk’s Starlink, which are targeting the wireless sector. So the pressure on mobile-only players could become more intense over time. The onus could soon be on regulators to decide whether there is even room for three players, never mind four.

nic.fildes@ft.com