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Chris Bullock, fund manager discusses opportunities in credit markets within the telecom sector
The telecoms and media market is in a state of flux. Consolidation is sweeping across the industry.Many telecoms companies have been participating in ‘in-market’ consolidation. The strategic rationale for such deals comes from the ability to benefit from scale and save on duplication, in particular the significant capital and operating expenditure of large network deployment and operation. This has particular merit at the start of technology cycles, such as the LTE/4G network rollout currently taking place across Europe.
In-market consolidation is generally to be welcomed because the improved scale typically drives higher profitability for telecoms companies while often leading to better network quality and service for customers. Such transactions typically generate significant value for both shareholders and bondholders alike. We have seen this in the UK mobile phone market, where operators Orange and T-Mobile have combined their networks and rebranded as EE. There is also a merger between O2 and KPN (E-Plus) in Germany and the acquisition of O2 by Three in Ireland awaiting regulatory clearance in 2014.
Other merger and acquisition (M&A) transactions can be more aggressively structured and for bondholders this can offer mixed fortunes. Early in 2013, the bonds of Virgin Media fell sharply after Liberty Global announced it was purchasing the UK cable company. In this instance, holders of Virgin Media debt were adversely impacted as the merged entity had substantially higher leverage and the bonds suffered a “junking” from investment grade to high yield status. We have seen an even greater price move in bonds of Time Warner Cable in the US, which is subject to a bid from Charter/Liberty Media.
As bond investors we have sought to be on the positive end of these M&A trends. We have invested in some of the smaller but well-managed cable companies that looked like they may be purchased by larger players with higher credit quality. We have benefited from holding Kabel Deutschland’s bonds, which rallied sharply after Vodafone acquired the company and the credit rating of the bonds consequently moved to investment grade. Ono, the Spanish cable company, also looks like its days as an independent might be numbered. Rumours continue to circulate that it is next on Vodafone’s shopping list.
Vodafone’s cable acquisitions have themselves been funded by M&A, with US$124bn of proceeds from the sale of its US business to joint venture partner Verizon. The US telecom giant’s acquisition of Vodafone’s 45% stake in Verizon Wireless last year was funded in part by the largest single bond offering in history at US$49 billion. We purchased bonds in the offering last September and the subsequent narrowing of spreads on the newly-issued bonds demonstrated the fabulous discount offered to bond investors in an attempt to ensure the bonds were fully placed.
Another trend in 2013 we expect to continue into 2014 is equity issuance through initial public offerings (IPOs). We hold bonds in Altice, a global cable company with a substantial business in Israel. In January 2014, Altice announced its intention to list on the Euronext exchange in Amsterdam. It will issue €1.5 billion of shares, with money raised targeted to reduce debt and bolster its ability to expand through acquisitions. Just as importantly for bondholders as the raising of fresh equity, it also publicly crystallises the value of the full equity capital that sits as a cushion beneath the company’s debt.
We continue to expect heightened M&A activity and IPOs in the telecoms and cable sector and are therefore positioned for a continuation of this theme during 2014.
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