Vodafone and Three U.K. confirm merger talks.

After months of speculation, mobile network operator Vodafone UK has confirmed that they are officially in “discussions” with Three UK about the possibility of creating a 51%-49% joint venture merger and the U.K.'s largest Operator with 27 million subscribers.

In a press release, Vodafone offered their rationale for the deal as being 5G investments “The UK Government rightly sees 5G as transformational for the economy and society and critical to the UK becoming more competitive in an increasingly digital world.”

Vodafone is playing to the tune of the regulator by tying its rationale to 5G investments to create a digital 5G leader. All the right notes to appease the regulator. However, there is certainly more to this M&A story. It has been well documented that Vodafone has been under pressure recently to improve its performance. Its share price has dropped 54% in the last five years. And its net debt – as reported at the end of March – exceeds its current market value by about £7.4 billion ($8.5 billion). Vodafone has been vocal that M&A is a cornerstone strategy to drive this turnaround. As recently as February, Nick Read, the chief executive of Vodafone, said he had entered M&A talks in its biggest markets o strike deals with “speed and resolve”, arguing that the European telecoms industry must consolidate to create more profitable businesses that are more attractive to investors.

At the same time, Hutch has been seeking a transaction that will help the business to achieve scale and increased profitability. Such as in 2016, when Hutchison-owned Three was courting Telefónica's O2 business, and the UK was still part of the European Union (EU). However, at the time, this deal was blocked by regulators.

See our previous post on State of the UK Mobile Market to see specifically the challenges both Three and Voda have faced. The biggest being marginal profits, no true fixed broadband play and NPS scores that trail the other MNOs.

The merged business would, claims Vodafone, challenge the two already consolidated players (BT EE and Virgin O2) for all UK customers and bring “benefits through competitively priced access to a third reliable, high quality, and secure 5G network throughout the UK“.

However, the benefits of such a merger aren’t quite as clear as in the case of BT and EE or O2 and Virgin Media, which predominantly reflected the combining of a fixed-line business on one side and mobile businesses on the other. By comparison, Three UK doesn’t have a fixed line business, and Vodafone has some of its business fibre, but its consumer base is mainly supported via its partnerships with Openreach and CityFibre.

The merger would be subject to an in-depth investigation by the CMA, which I’d suggest will focus on several key areas. According to Ofcom data, the new entirety would hold large quantities of the spectrum – as much as 49% of all licensed bands. It would also eliminate a competitor, turning the UK from a four- to a three-player mobile market, potential presenting a risk of increased prices at a time of rising inflation and squeezed household budgets. 

Further, a combined entity will mean one less place for MVNOs to go for a hosting deal. Vodafone and Three have had quite opposing views towards MVNOs in the past, with Three known to openly embrace the MVNO model, whereas Vodafone has been less supportive over recent years. In previous mergers, there have been remedies involving MVNOs, including divesting MVNO sub-brands or allowing preferential network access to MVNOs to create a meaningful competitor. Divestment of an MVNO does not look possible in this case as neither Voda’s Voxi nor Three’s Smarty brand possesses enough scale to be considered a significant market player for competition purposes. So perhaps a remedy will focus on offering network access. I’d suggest that the combined entity would also be required to give up some of its spectrum. Although the challenge here will be that giving up a meaningful amount of spectrum will go against the principles of the combined entity, creating a 5G powerhouse.

The consolidation movement continues with gusto in the U.K. I, for one, will be most interested to see how the CMA approaches the competition question, particularly regarding the wholesale market.