The mid-year report on Telefonica, Orange and BT

Last week, three European incumbents – Orange, British Telecom and Telefonica – released their mid-year results, delivering some news to reassure investors already reeling from the economic downturn.  The numbers show that the telecom market is moving at its usual steady pace, as if nothing adverse were happening in the financial markets. In addition to releasing quarterly results, the carriers made interesting remarks on the dynamic of the European telecom market. Europe is a market which started its transition from government-owned monopolies to private companies much later, but it has evolved faster than the US on pricing and innovative services. For this you can thank the telecom regulators, who have made a significant impact on the level of competition in the EU.

Telefonica: cash cow is in broadband and cellular

Telefonica, the Spanish incumbent and the third largest cellular operator in the world, showed a 6.2% decline in its first half net profit, which is better than expected by analysts. Its sales grew 1.2% over the same period last year. Telefonica’s revenue and profit guidance for the end of the year remains positive and may even reach double-digit growth. Its valuable asset is 11 million broadband subscribers, of which 5 million reside in Spain. The growth of its unbundled broadband access in Spain is very strong. It is also gaining about 1.5 million new broadband customers every year outside its native market. In addition to broadband services, the cellular services are fueling growth especially Latin America, where Telefonica gained 16 million subscribers in one year. The pace of growth accelerated in 2008 with 10 million additional cellular customers in the second quarter alone. But Europe has also been a good market for Telefonica which added 3 million new cellular customers between June 2007 and June 2008.

Surfing on  the local loop

The unbundling of the local loop in Europe has opened a healthy wholesale market. Telefonica positioned itself as a wholesaler in Germany, setting up partnerships with ISP that do not own wired broadband infrastructure. In one year, it increased European wholesale revenues from 2.5 million Euros to 1 billion Euros.  In Spain, Telefonica is conducting field tests to rollout fiber to the home (FTTH) networks. CMT, the Spanish regulator, said last Friday that Telefonica will be required to allow competitors to lay fiber in its underground tunnels but it will not have to share its fiber optic lines. Telefonica will also have to act as a wholesaler of its fiber networks to competitors.

Orange: holding the reins

Orange, the French mobile arm of France Telecom, seems to have morphed from perennial bad boy to hero overnight. Its profit for the first half of 2008 fell by 19%, in line with estimates. Didier Lombard, CEO of the Orange-France Telecom Group, managed to make analysts happy with profit gains in the fixed line and cellular businesses. He also made investors paying for the first time an interim dividend and assuring them that Orange’s growth prospects are unaffected by the economic crisis. Jean Claude Delcroix, Director of Research at the Gartner Group said : “it is good to see that France Telecom is able to generate  cash flow and a comfortable net income. It reassures the market in a difficult economic period.” France Telecom’s business is now maturing in all its segments, but it sees margins improving.

France Telecom needs an aggressive strategy

Nevertheless, Delcroix believes France Telecom needs a more aggressive strategy for external and internal growth. He pointed out Didier Lombard downplaying the missed acquisition of Telia Sonera, a Swedish operator. “I think this was a mistake. This operation should have been prepared more cautiously, it has been handled with a lack of preparation and psychology. This is worrying for a company of this size.”

The company, with a fairly high level of debt, does not have a lot of buying power. Moreover, its investment strategy is limited. In 2006, France Telecom announced the pre-deployment phase of fiber optic networks in several districts of Paris, the Hauts de Seine region and in ten French cities. In April 2008, a press release said France Telecom should have passed more than one million houses and allowed them to connect to fiber by the end of 2008. Today, a France Telecom offering for fiber optic to the home access has yet to be released. Their investment in FTTH for the first half of 2008 was 73 million Euros. France Telecom executives complained of the absence of clear rules for the installation of the terminal part of the FTTH network in the buildings as a barrier to a fast roll out of the network.  This issue was addressed in  “The French Economic Modernization bill” passed by the French parliament earlier in July.

British Telecom: feeling the heat

BT is entering a period of high volatility. It announced a significant drop in first quarter cash flow, to £387 million compared with £848 the previous year, immediately pushing down the shares of the company by 20%.  BT also admitted that its pension fund, one of the largest in the UK, has abruptly turned £600 million in the red, compared with a £1.4 billion surplus last year. Analysts were also troubled by BT Global Services margins contracting to 9.5% from 9.8%. This percentage is expected to decrease at least until the end of the year. Revenues of BT Global services, a service provider for large IT organizations, were up 13% to £2 billion. This reversal was not anticipated because the company previously maintained that its IT business was in a maturing phase and it was expecting margins and income to improve substantially. Unlike Telefonica and France Telecom, BT has no cellular business. This activity was spun off as mmO2 in late 2001 in order to pay off the debt incurred in acquiring licenses for the 3G frequencies. O2 was later bought by Telefonica and is now the leading cellular phone provider in the UK.

Wireless access and fiber to the home

BT is gaining traction on the broadband market with 4.5 million DSL customers, a 35% market share. BT accounted for 31% of the 338,000 net additions to the UK DSL market during the quarter. BT Wireless services are growing in popularity with a large WiFi community called “BT Fon”. Through their home wireless network, members share part of their broadband connection to establish a network of wireless hotspots in cities. The community has reached 121,000 members.

BT is also selling 1.1 million minutes of connection per day to its Openzone network, consisting of 3000 public hotspots in the UK. In May, BT launched BT Total Broadband Anywhere combining BT ToGo Wi-Fi enabled mobile phones with BT Total Broadand. They reached 34,000 customers by the end of June. In July, BT announced an ambitious plan to invest £1.5 billion in FTTH networks offering speeds up to 100 mbps. BT plans to make FTTH available to 10 million households in the UK by 2012. The UK is now trailing France, Spain and Germany in the deployment of FTTH networks. BT says in a press release: “Discussions have started with Ofcom, the UK regulator, to remove the current barrier to investment and making sure that anyone who chooses to invest in fiber can earn a fair rate of return for their shareholders.”

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About the author

Alain Baritault is the Editor in Chief and co-founder of Cités Numériques, a French publication for elected officials and technology decision makers in the French municipalities, territories and the national government. He has been a journalist, analyst and columnist based in Silicon Valley for the past 20 years covering technology and business for French magazines and newspapers as 01 Informatique, La Tribune, Sciences et Vie Micro and l’Informaticien. Along with his press activities, he has been an analyst and consultant for French companies, organizations and local governments focused on emerging technologies as wireless technologies and all technologies related to mobility. He is also following the emerging ultra high speed broadband market in France. Previously Alain was Editor of several French computer magazines as Decision Informatique and Temps Micro. He has an MBA and post-graduate degree (DEA) from University Paris 9 Dauphine.