European telecoms: ring of confidence Premium

Investors should be selective and hope M&A chatter bears fruit

Nicotinoids or not, Europe’s bee population is declining. But the buzz surrounding the region’s telecoms companies might convince a Martian that the swarms have simply decamped. From Vodafone and the fate of its Verizon stake, to potential consolidation in both the cable and telecoms sectors – Telecom Italia, Kabel Deutschland and so on – the rumour mill has been in overdrive.

How much eventuates is another matter. Attitudes on consolidation may be softening in parts of the Brussels regulatory establishment. But it is less clear that antitrust officials will be more accommodating or that mergers will be welcomed at national level. Friday’s $1.3bn Qatari investment in India’s Bharti Airtel is a reminder that outside interest in the sector is always a possibility. But, in Europe, Mexico’s Carlos Slim has hardly blazed an encouraging trail with his recently-acquired stakes in KPN and Telekom Austria. Both remain under water.

For investors, though, the chatter has brought much-needed price gains. The Stoxx telecoms index has outperformed recently, with a 14 per cent bounce from February lows (although it remains no higher than four years ago). But this rebound will not get much help from first-quarter earnings, which most of Europe’s big telcos report this week. Regulatory pressure on mobile termination rates is still peaking and customer spending is depressed. Citibank expects it to be the worst quarter for mobile revenue declines.

These pressures, coupled with network outlays (fibre, 4G), are doing nothing to help balance sheets. S&P expects telco incumbents to see free cash flows fall in 2013-14, making this part of the sector most vulnerable to rating downgrades. Longer-term, things may improve, with 4G at least cushioning revenue trends. In the meantime, investors need to shop selectively and hope the M&A chatter bears fruit.

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