Vodafone’s chief executive Vittorio Colao said on Thursday that Liberty Global could be a good fit for the British behemoth if the take-out price was right. Wishful thinking?
Market Reaction
Would the deal really make any sense for Vodafone (LSE: VOD) (NASDAQ: VOD.US) shareholders?
The stock of Liberty Global was up 4.1% on Thursday, but Vodafone lost more than 2% of value as soon as Mr Colao’s remarks hit the wires. Investors are worried that Vodafone will stretch its finances to purse a deal that not only isn’t necessary but isn’t compelling, either. There is a possibility that Vodafone hasn’t learned from its past mistakes and will continue to destroy value by overpaying for acquisitions as it needs to re-build its asset base. This is a serious risk for shareholders.
Moreover, if Vodafone is serious about taking over Liberty, that will call into question the feasibility of its current strategy. Its £19bn “Project Spring” network investment programme aims to deliver hefty returns, but it may become a money pit…
A Liberty Deal
Strategy-wise, the deal would make lots of sense given that Vodafone aims to combine cable and mobile operations, as proven by its recent M&A strategy. The problem is that Vodafone would have to finance the deal with equity and cash, and Vodafone’s current equity valuation — which is pretty low — renders its equity a very expensive M&A currency. In other words, value destruction may be the outcome. Furthermore, it’s debatable whether Liberty shareholders would be glad to receive Vodafone stock and retain a small portion in the combined entity. Economically, the deal will take time to yield dividends.
Depending on the price tag and the relative valuations ascribed to Vodafone’s and Liberty’s stock, Liberty shareholders may end up owning less than 30% of the combined entity, according to my calculations. Net leverage would be manageable – just. Execution risk would be meaningful, though. The combined entity would draw intense scrutiny from regulators in Europe, given that Vodafone and Liberty would have a significant overlap with regard to German and Dutch assets. The situation in the UK would be less problematic, however.
The price tag is another obvious issue: Liberty’s equity would cost up to $45bn, but Libery’s enterprise value is around $70bn (total debt stood at $44bn at the end of 2013).
What’s Next
“Vodafone has a market cap of about £51bn, so it remains too big to be bought out but big enough to fail,” I argued at the end of June. Its shares trade around the level they recorded back then. I think Vodafone is in structural decline. Possible suitors have looked elsewhere to expand their businesses via M&A, so I struggle to find any value in Vodafone stock at this price. In fact, I also doubt management will be able to deliver on their promises…
