The UK telecoms industry is undergoing major transformation with recent market consolidation activity. Operators have recently been looking at convergence in the sector as a means to improving bundling opportunities, as bundling fixed-line services with mobile and paid TV products is thought to make consumers less likely to switch providers.
BT and EE
BT Group (LSE: BT-A) has agreed to buy mobile operator EE for £12.5 billion, but the deal still awaits regulatory approval. Although there are some concerns that BT may be forced to sell its fixed-line wholesale business, Openreach, the deal is likely to get the go-ahead. Similar consolidations moves to shrink the number of wireless operators from four to three have already been allowed in Germany, Ireland and Austria.
Since the spin-off of BT’s mobile network in 2001, there has been clear division between operators which provide mobile services and those that provide fixed-line services. But, with technology changes, more data is carried by fixed-line infrastructure. BT expects it will gain from substantial cost and capital spending synergies from sharing its infrastructure, in addition to the revenue gains.
With EE having the best wireless assets, in terms of its number of customers, its spectrum licenses and its 4G infrastructure, the merger will likely make BT’s dominant market position even stronger. The combination of EE’s assets with BT’s existing lead in its fibre network should mean that market convergence would play to its strengths.
Sky and Vodafone
| Forward P/E ratio | Indicative dividend yield (%) | |
| BT Group | 14.7 | 3.2 |
| Sky | 19.3 | 3.1 |
| Vodafone | 44.9 | 5.0 |
Sky (LSE: SKY) — which has long adopted the bundling strategy — seems to be falling behind, as it lacks a credible mobile service. In addition, BT is intensifying competition in its most important paid-TV market, by aggressively bidding for exclusive sports content and offering it for free to its paid TV customers.
Vodafone’s (LSE: VOD) strategy of keeping disparate wireless assets across the globe increasingly resembles the strategy of the past. Although it has made some strides to expand into broadband and paid TV in Europe, Vodafone has placed more focus on improving its wireless network through additional capital spending on its infrastructure. So far, it has yet to see any substantial success from its strategy, as revenues and earnings continue to fall in Europe, because of the fierce price competition in many markets, particularly in Italy.
BT’s focus on the UK
BT’s focus on the UK market is its key attraction. Although its lack of geographical diversification means it is heavily exposed to market conditions of a single country, better economic conditions and a more favourable competitive environment in the UK is the main cause of BT’s recent outperformance.
BT’s dividend is well covered by its improving profitability and its strong cash flow generation. Normalised free cash flow of £2.83 billion in 2014 more than covered its dividend by three times. This compares to 2.1 times free cash flow cover for Sky, and 0.4 times cover for Vodafone. Although BT does have a large pension deficit, net debt has steadily fallen, and its faster earnings momentum would likely lead to a faster rate of dividend growth in the longer term. On top of this, BT has the lowest forward P/E of the three.
