Update: Ofcom issues clarification
Vodafone confirms that it is in discussions with CK Hutchison Holdings Limited regarding possibly combining Vodafone UK and Three UK.
The proposed transaction would involve the companies combining their UK businesses, with Vodafone owning 51% and CK Hutchison owning 49%. No money is to change hands, it will all be through “a differential leverage contribution at closing” should it go through.
The reason given is, “The UK Government rightly sees 5G as transformational for the economy and society and critical to the UK becoming more competitive in an increasingly digital world.
“The conditions to ensure thriving competition in the market need to be nurtured, otherwise the UK is at risk of losing the opportunity to be a 5G leader. As Ofcom has identified, some operators in the UK – Vodafone UK and Three UK – lack the necessary scale to earn their cost of capital”.
Although Vodafone claimed that in Ofcom’s Discussion Paper (February 2022), the regulator described Vodafone UK and Three UK as sub scale operators, in fact Ofcom says it did not but stated in its paper that they were earning below the cost of capital. In a separate section it talked about the scale of the operators. The paper also made reference to minimum viable scale but didn’t discuss individual operators.
Investor pressure
There’s no mention of Vodafone being under pressure from activist investor Cevian Capital, and others, to consolidate in key markets, buy back shares and offload some smaller opcos.
In a statement confirming the talks, Vodafone said, “By combining our businesses, Vodafone UK and Three UK will gain the necessary scale to be able to accelerate the rollout of full 5G in the UK and expand broadband connectivity to rural communities and small businesses.
“The merged business would challenge the two already consolidated players for all UK customers and bring benefits through competitively priced access to a third reliable, high quality, and secure 5G network throughout the UK.
“There can be no certainty that any transaction between the two companies will ultimately be agreed.”
Scale matters
Kester Mann, Director, Consumer and Connectivity at CCS Insights, noted that the biggest motivation to join forces is scale, adding, “Under the status quo, it’s hard to see either operator growing enough organically to get close to challenging BT and Virgin Media O2 for size in the UK.”
The proposed tie-up is also a reflection of Vodafone no longer having the heft of a mobile incumbent. “Not so long ago, a tie-up between Vodafone and Three would have felt like an unnatural pairing. But in recent times, Vodafone has taken on more of a challenger role in its home market, so the two operators’ strategies may no longer be too far apart,” Mann says.
Should the deal gain the approval of both partners, “regulation would be a major hurdle, he says. “It would be up to the competition authorities to decide whether reducing the number of players is for the overall good of the market. Advocates will argue it encourages investment; dissenters will claim it’s a reason to push up prices.”
Mann concludes, “Of course, Vodafone pairing with Three is just one potential tie-up in the UK. Other deals involving Virgin Media O2, TalkTalk and Sky have been speculated in recent months.”