How long can BT Wireless go it alone?
By Kate Bulkley
May 16, 2001
The debt-laden telecoms goliath BT has been forced to spin off its mobile division in a bid to placate investors. But analysts are predicting its independence is likely to be short-lived
Last week BT's new chairman, former BBC boss Sir Christopher Bland, told the world that Britain's telephone giant was to be transformed. But the plans he laid out sounded more like a whimper than a grand fanfare of the BT trumpet. And the strategy for the wireless business, which had been viewed as one of BT's biggest potential growth engines, is so changed that most analysts see its future as part of some other company's growth plan.
The stark facts are these: BT's CEO Sir Peter Bonfield had big global ambitions in wireless, but the company now lacks the financial firepower to get there. BT has agreed to sales of its wireless assets in Asia and Spain and, although no formal decision has been made, its French and Italian wireless businesses are also likely to be sold.
These are all part of the plan to pull back BT from the financial brink, and reduce its staggering debt pile of £29.7bn, much of it taken on to acquire wireless businesses and to pay for the licences to operate third-generation mobile phone services. In addition to continued asset sales, including the disposal of its Yell directory business, the prospectus for the UK's biggest rights issue began to be circulated to BT shareholders on Monday. The raising of £5.9bn in new cash will probably be followed this year by the severing of BT into two companies, Future BT, to include the traditional fixed-line phone and data businesses, and BT Wireless, with the expected faster-growing mobile phone assets.
But the prospects for both include big question marks. The day after last Thursday's announcement, rating agency Moody's downgraded BT's credit, saying demerging BT Wireless means BT would no longer benefit from being an integrated telecommunications company, and BT bondholders would be disadvantaged.
Ironically, most equity analysts view BT Wireless as a relatively weak player among the mobile companies. BT Wireless, which includes mobile phone networks in the UK, Germany, Ireland and The Netherlands, as well as its loss-making mobile portal business Genie, has had a relatively poor track record delivering profits. BT Wireless has nearly 17 million mobile subscribers, two-thirds of which are in its UK Cellnet business. But the mobile revenue share of its flagship market, Cellnet, has dropped from 38 per cent a year ago to 28 per cent in the most recent quarter, says Nomura, which has put pressure on BT Wireless CEO Peter Erskine. BT Wireless will also have to spend heavily on building 3G networks over the next two years.
In Germany, BT has had complete control of wireless operator Viag Interkom only since February, when it spent £5.6bn to buy the 55 per cent of Viag it did not already own. With 3.7 million mobile subscribers, Viag is a minnow in the big German market, with a market share of about 7 per cent. Compare that to Vodafone's D2 and Deutsche Telekom's T-Mobile, which each have about 40 per cent. BT Wireless counts about a million customers in each of the much smaller markets of Ireland and The Netherlands.
"You wouldn't look at these [BT Wireless assets] and say, 'This is the greatest group of assets'," says Andrew Beale, a telecoms equity analyst at Deutsche Bank. "Viag is number four in Germany and UK Cellnet has been a long-term under-performer. You can't say they have a full European footprint." What BT Wireless does have, he says, is the potential for "very high growth rates" but admits turning around a wireless business "takes time". And the environment could get more difficult. The growth of wireless overall in Europe is a problem. "The growth rate is slowing more quickly than we thought," says Andrew O'Neill, analyst for New York-based Sanford C Bernstein. "There is not that much new subscriber growth and the ability to hold price levels is eroding. So growth is slowing, which if you are a smaller operator is a problem because it means you can't just rely on organic growth."
The UK's Cellnet has prided itself on being among the most technically forward-looking of the local mobile operators, but pioneering has not always paid off. Cellnet spent a lot of money and time securing vast numbers of wireless application protocol (WAP) handsets when they first came out, but in the event WAP was bedevilled by problems, notably slow data download times. And just this week BT was forced to delay the high-profile launch of its 3G service on the Isle of Man because of software problems.
On the plus side, under the demerger plan, BT Wireless is likely to be spun off without the debt problems suffered by its parent when the costly 3G licences were acquired. Philip Hampton, BT's finance director, says he expects BT Wireless to have net debt of no more than £2bn. BT has also taken a £3bn goodwill charge in its latest quarter against the value of Viag.
In meetings with investors, Mr Hampton has openly criticised some board decisions taken before his arrival last October. He is said to have characterised the acquisition of expensive foreign mobile phone groups such as Viag Interkom as the result of "poor financial discipline" and excessive "pride".
Last week Sir Christopher admitted the company wished it had not spent so much on 3G licences, but that "it's no good looking back and wringing our hands". For BT shareholders, spinning out BT Wireless will give the business a transparency and a focus that it has not had before, but it is unclear how long a company of its size can remain independent.
Analysts have a wide band of valuations on what a stand-alone BT Wireless is worth, ranging from £12bn to £20bn. Compare that to Vodafone's market capitalisation of 219bn euros (£135bn). For the year ended 31 March, 2001, BT Wireless lost £225m on turnover of £3.9bn, before exceptional items. More significantly, on earnings before interest, taxes, depreciation and amortisation (EBITDA), BT Wireless had an overall operating margin last year of about 10 per cent. This compares unfavourably with its rivals, including Orange (13 per cent), Vodafone (31 per cent) and Spain's Telefonica Moviles (35 per cent), show figures from Nomura.
"Vodafone has been much more successful in the M&A [mergers and acquisitions] takeover game than BT," says Mr O'Neill. "Vodafone is a pure-play wireless so it has focus and the right [acquisition] currency. Vodafone has also run its operations relatively well and has investor confidence. BT has not proven the ability to execute or operate."
The City expects more consolidation in Europe, but BT Wireless, at its present size, is not likely to be one of the consolidators. Deutsche Bank's Mr Beale says: "There will be more consolidation in Europe, and the asset base of BT Wireless could be used to help a company such as Telefonica Moviles increase its European footprint."
Telefonica Moviles, with a market capitalisation of about 37bn euros, has a strong presence in Spain and Latin America. It also holds a 3G licence in Germany with Finnish operator Sonera, but has no presence in the UK. Other possible buyers for some or all of BT Wireless include Telecom Italia Mobile (TIM), with a market capitalisation of 63bn euros, and the mobile operations of Dutch company KPN.
Observers in the City claim Mr Erskine often changes strategy without fully explaining why, a practice that has made him unpopular with some analysts. Last autumn he is said to have told the City he would maintain Cellnet's margins by avoiding heavy discounting in its mobile payment packages. But before Christmas, and under pressure from rivals including Vodafone, he decided to heavily market pre-paid, lower-margin phones. Critics said he was more concerned about keeping BT Wireless's number two market share position than he was about holding on to higher revenues. A Cellnet spokesman confirmed they did offer heavily discounted phones but only 20,000 out of the total three-month net new phone sales of 1.5 million.
Last week, Sir Peter told journalists that Cellnet should be able to report improved financial performance in the near term because it is now focusing on profitability rather than simple subscriber growth. Sitting beside him, Sir Christopher added: "Soon it will be a proper business."
Part of the problem at BT Wireless is that it has been a wholly-owned unit of BT, meaning that its management has not had complete autonomy. Historically, Cellnet also had another big shareholder, Securicor, which had different objectives for the business. It took years and a change of government to get the regulatory permission and for BT to negotiate a palatable price to buy out Securicor. One could argue that before this share change, BT was more interested in paying as little as possible for Securicor's stake in Cellnet than it was on making the UK mobile business as profitable as it could be.
But the position of Mr Erskine and BT Wireless is more to do with a combination of bad timing and bad luck for BT. Any idea of how BT Wireless's future was going to look was shattered at the time of the flotation of Orange earlier this year. Before, BT had planned to take its wireless unit to the stock market. But when even the magic of Hans Snook, then CEO of Orange, failed to galvanise his company's flotation to its expected heights, the senior BT management could see the writing on the wall. "The defining moment was the failure of the Orange flotation," says Mr Hampton.
Saddled with debt and with a chorus of critics shouting for action, BT could not wait for the markets to recover. It had to act decisively. The replacement of former chairman Sir Iain Vallance was just the warm-up for the main event, last week's announcements. A demerger of BT Wireless may be the best result for BT shareholders. But it is a far cry from BT's imperial ambitions. Sir Peter is the man who articulated those original ambitions, but he now has the task of overseeing the break-up of the global dream.
The heady days of announcements of potential joint ventures with giants such as America's MCI now seem a faded memory. It might be easier for him to leave now, but Sir Peter says he has never been a quitter. Besides, with Sir Christopher in his chair for only weeks and Mr Hampton in his for only months, Sir Peter is the only one of the triumvirate with institutional memory.
This kind of reasoning may also carry over to Mr Erskine. Sir Christopher has said Mr Erskine will stay on as CEO of BT Wireless, although the hunt is on for a chairman for the company. In the light of the difficult economics, there are too many wireless phone operators. Mergers are a possibility, and those with scale and the best management teams will survive. The demerger of BT Wireless has been designed to try to get the best result for shareholders, but the company may only survive in the long term as a memory of what could have been.