Telecom Italia’s future becomes even more uncertain

Emeka Obiodu, Principal Analyst, Industry, Communications, and Broadband

Telecom Italia (TI) has unveiled plans to raise €4.0bnto help reduce its debt. Rather than the €2.0bn capital increase that had been anticipated, TI has opted for a €1.4bnconvertible bond, the sale of its 22.7% stake in Telecom Argentina, the sale-and-lease-back of its mobile towers in Brazil and Italy, and the offloading of its digital broadcasting unit in Italy. These steps will give the operator something of a reprieve, but the future of its Brazilian operation remains in doubt.

If TI does sell its Brazilian operation (in addition to its Argentine unit) it will become more like the UK’s BT. Losing its Brazilian presence would shrink the operator to 62% of its current size (based on 2012 revenues), and leave it vulnerable to takeover. The only way for it to avoid being acquired by Telefonica will be through political backing.

Telecom Italia’s announcement raises more questions than answers

Although it is no surprise that TI has decided to raise money and cut its debt, the route it has taken leaves it with an uncertain future. In our recent report Telecom Italia: Seeking Stability in the Face of an Uncertain Future, Ovum noted that TI’s troubles are more about its debt burden than its operational performance. The ratings agency Moody’s has already cut TI’s debt to junk, and the other agencies have downgraded it to one notch above junk. With TI needing to rollover a chunk of debt next year, these debt downgrades are costly. Unfortunately for TI, Moody’s has said that the €1.4bnconvertible bond will not help TI’s rating until it is converted to bonds (by 2016).

If the bonds are designed for mid-term relief, TI has gone for asset sales for short-term relief. The sale of its stake in Telecom Argentina was not anticipated, and the proceeds are not big enough to dent TI’s debt burden (of nearly €30bn). The operator will get €731m from the sale and will be quitting a market where it has battled for control with the domestic Werthein Group.

TI remains bullish about its future in Brazil, and plans BRL11bn ($4.78 billion) in capex investments between 2013 and 2016. At the same time, it is entering a sell-and-lease-back deal to sell approximately 17,000 mobile masts in Brazil and Italy. Together with the sale of its Italian digital broadcasting unit, it hopes that this will raise an additional €2bn.

Certainty is needed in fixed access in Italy

Another question waiting for an answer regards the fate of TI’s plan to spin-off its fixed network in Italy, which is now on hold until the review of the EU regulatory framework is complete and new investors have shown interest in the network. The spin-off issue has been on the table for some time, and requires clarity for all stakeholders and investors. Whichever direction is taken, having regulatory certainty is always important in securing more investment.

While that decision waits, TI has announced its intention to embrace a new access model based on “equivalence of inputs” (EOI) and with strengthened functional separation. In principle, this should be well received by alternative access seekers – the EOI model has worked well in the UK, where access conditions have improved since the regulator, Ofcom, obligated BT to implement structural separation in 2005.

Ovum expects TI and AGCOM to go ahead with the EOI plan, and clear up any doubts about the regulatory framework for fixed access in Italy. The regulator has sufficient powers to impose such a measure regardless of TI’s intentions, and AGCOM’s upcoming analysis of the wholesale broadband access markets (markets 4 and 5 of the EC’s Recommendation on Relevant Markets) could be a timely chance to assess market conditions and impose any necessary remedy.

Telecom Italia is en route to becoming another BT, but can it survive independently like BT?

Regardless of what TI says about Brazil, speculation will remain that Telefonica, as a major shareholder, will force TI to sell its stake in TIM Brazil, the country’s second largest mobile player. If this happens, TI will join the ranks of Western European former incumbents that have retreated to their domestic markets (or at least to a point where they have very little foreign presence). Broadly speaking, this group of telcos can be split into two: those where the government is publicly a significant shareholder (Swisscom and Belgacom) and those that are putatively free of government control (BT, KPN, and Eircom).

BT struggled to cope with its lack of mobile assets in the UK, but it managed to leverage its strong position in the business market and the UK’s heft in the English-speaking world to turn BT Global Services into a world leader. BT Global Services serves approximately 7,000 large corporate and public sector customers in more than 170 countries globally. In the 2012–13 financial year it generated £7.2bn in revenues (approximately 39% of total group revenues) compared to £7.3bn from BT’s retail operations in the UK.

In contrast, TI does not have a sizeable business division or the cultural strength and linguistic influence to target global corporations. If it were to lose its Argentine and Brazilian operations, TI’s revenue base would shrink to 62% of its current size (based on its 2012 annual results). At that size, it would be closer to KPN than BT. Given Telefonica’s current stake in the Italian operator, at a certain point it becomes a question of whether it is politically palatable to allow TI to fall into foreign hands.

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