Telefonica Deutschland grabs top spot by buying E-Plus - but the real challenges remain the same

KPN has agreed to sell E-Plus to Telefónica Deutschland for an implied valuation of €8.1 billion. The transaction will combine the No. 3 and No. 4 carriers in the German mobile market to create the new No. 1 carrier based on a subscriber market share of 37% and 43 million subscribers  (although only a No. 3 based on a 32% revenue market share).

While the deal brings a variety of opportunities, Telefónica will still face an assortment of challenges:

  • Telefónica believes that the deal will unlock synergies of an estimated €5.0 billion to €5.5 billion. About 70% of these synergies will come from opex savings and 30% from capex savings. In addition to processes rationalisation and reduced SG&A expenses, financial, and tax synergies, a stronger competitive position from increased scale, site consolidation, and rationalisation will play a major role. Telefónica is planning to reduce around 14,000 sites. In total, about half of all opex synergies come from network-related savings. This form of network consolidation will be bad news for network infrastructure vendors like Nokia, Ericsson, and Huawei as consolidation hits the largest European market for network infrastructure.
  • The deal adds ample capacity to address high-quality data services. Customers will benefit from the best high-speed mobile and fixed experience from one common nationwide LTE network and increased efficiency by leveraging the scalable transmission agreement with Deutsche Telekom. Telefónica does have a point. In 2012, smartphone connections as a percentage of mobile connections stood at 27% in Germany versus an EU average of 34%, according to Telefónica Deutschland.
  • Telefónica counts on incremental value from cross- and upselling. Telefónica points to the large and complementary distribution network as ideal distribution channels and a platform for outstanding customer service. Its pitch to business focuses on ICT and cloud solutions. Telefónica plans to target the SME opportunity. The combined entity will retain a multibrand strategy serving different customer needs, something E-Plus has had years of experience with.
  • This deal is unlikely to alter the fundamental challenges Telefónica faces. The combined entity will no doubt benefit from leveraging Telefónica’s global capabilities. In particular, Telefonica can add value in the areas of digital innovation and scale. But only time will tell whether this deal will be a great success for Telefónica, KPN, and mobile customers in Germany. One thing is certain: Life will get even tougher for Deutsche Telekom and Vodafone. And it has already been very tough in recent years. All carriers clearly need to come up with new ideas about how to defend their turf.
  • What really matters is the long-term vision and strategy of Telefónica. How does this deal, which ultimately focuses on scale, fit into Telefónica’s strategy? What are Telefónica’s real competitors going forward? Yes, Telefónica needs to compete with the other carriers, in particular a combined Vodafone/Kabel Deutschland. But the true challenge is coming from the likes of Google, Amazon.com, Apple, retailers, financial services providers, and entertainment houses, as well as from IT services firms like IBM, Capgemini, and T-Systems.

It is hardly news that carriers face massive challenges as their business model remains under attack. It is high time for them to radically rethink their approach to customer data analytics, customer experience, and innovation. Who will survive this challenging environment? Only those carriers that become much leaner and much faster moving. At this stage, I am not convinced that many carriers can manage this transition successfully. Scale is only a small part of needed adjustments. Changing “telco culture” to more resemble the retail, financial services, entertainment, and IT services industries in terms of customer experience is the much larger and urgent task. And this can’t be addressed by simply combining two carriers.

_________

The deal represents a 9.0x multiple on E-Plus’ EBITDA FY 2013. KPN will retain a 17.6% stake in the combined E-Plus and Telefónica Deutschland. The transaction is expected to close in mid-2014, following clearance from the relevant authorities.