Once upon a time, Vodafone was the biggest beast in the global telecoms jungle – indeed, it was also the UK’s biggest company by stock market value around the turn of the century. Now, says its new chief executive, it is “sub scale” in its home market of the UK and unable to compete effectively. As an implied confession of how Vodafone has been outflanked by rivals over the years, it was quite something.
It is, though, the basis on which Margherita Della Valle invited regulators to bless a UK merger with CK Hutchison-owned Three and rip up their historic stance that four national mobile operators is the minimum required to guarantee healthy competition. The UK, argued Della Valle, has already ceased to be a proper four-player market. BT-owned EE and Virgin Media O2 were portrayed in Wednesday’s pitch as a duopoly playing in a higher league.
Poor old Vodafone and Three, ran the argument, are too small in the UK to earn returns above their cost of capital and so lack financial incentives to roll out a shiny new 5G network in full. A merger would rebalance the market and be “great for customers, great for the country and great for competition”, she argued, promising £11bn of investment over 10 years.
The plea of current poverty isn’t ridiculous, it should be said. A chart from a recent report from the regulator Ofcom – one that we will be seeing a lot in the long lobbying months ahead – does indeed show a two-tier market in terms of returns of capital. EE and Virgin Media O2 have been earning comfortably above a 9%-ish cost of capital, and Vodafone and Three have been massively below for years. This finding will be no comfort to mobile phone users suffering hefty contractual price hikes, but it is what the numbers show.
Yet it does not necessarily follow that a consolidating “four-to-three” merger is the only way to ensure proper competition. Yes, as the would-be combo partners pointed out, Ofcom did say low returns from two players can reduce everybody’s incentive to invest. But it also speculated that there may still be scope for the smaller operators to improve their financial outlook “through continuing to compete [and invest]”. Ofcom wasn’t definitive; it just softened its traditional hard line.
It will, in any case, be up to the Competition and Markets Authority to opine (and for the government to examine the security angle posed by Three being owned out of Hong Kong). If the CMA is minded to agree that the market has fundamentally changed and that a “four to three” deal is now tolerable, its next job will be to wring some hard concessions out of Vodafone and Three.
Della Valle spoke about building a “best in Europe” network in the UK, which is obviously an attractive proposition when most of the continent is in a panic about how the US and parts of Asia are streets ahead in the 5G rollout game. But an £11bn business plan over a decade is not the same thing as a binding undertaking. The delivery of the prize for the nation has to be seen to be secure.
The CMA will only get to sanction a “four-to-three” consolidation once. There are no would-be entrants queueing to invest and Three has usefully performed the role of market irritant for a long time. If this deal is to be allowed, the investment pledges must be nailed down. Della Valle’s ra-ra boosterism about the UK was fine as a day one performance. The CMA, though, must start from scepticism and judge the deal on hard commitments. The bargaining has barely begun.
