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The impact of the economic crisis on the Spanish telecommunication sector: main challenges and opportunities. ENTER-NEREC. Javier Borrachero, CFA Madrid +34 91 789 8872 [email protected] June 2009. The impact of the crisis on the sector. Resilient but not immune.

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The impact of the economic crisis on the Spanish telecommunication sector: main challenges and opportunities

ENTER-NEREC

Javier Borrachero, CFA Madrid +34 91 789 8872 [email protected]

June 2009


The impact of the crisis on the sector l.jpg
The impact of the crisis on the sector telecommunication sector: main challenges and opportunities

Resilient but not immune

  • Investors have been debating for a while about the sector defensive characteristics

  • Initialy investors expected a limited exposure to the economic cycle

    • Low level of discretionary consumption (3% of households budget)

    • Solid numbers reported up until 4Q08: solid free caash flow generation, resilient top-line, cost cutting initiatives

    • 2008 guidance met

    • No sign of financial distress (with a few exceptions)

    • Sector relative outperformance in 2008

  • But the sector has showed it is not inmune

    • Telecoms is a late-cycle: economic weakness has emerged later on the cycle

    • Growth areas have not materialise as expected in a weak economic environment

    • Intense competition, price deflation and tough regulation remain in place

    • Several operators have cut 2009 guidance

    • Sector has underperformed in the last 6 months


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Consumer staple or discretionary? telecommunication sector: main challenges and opportunities

Technological waves have boosted telecom spend

  • Little evidence of how telcos fare in a downturn: most value added products not tested before

  • Certainly in previous crisis pre-committed spend such as telecom services, housing and food (partly obliged and partly discretionary) tend to resist better

  • Telecom services have captured a growing share of customers wallet over 3 successive waves of technology

    • Fixed-line take off in the 70s

    • Mobile take off

    • Internet take off

  • Consumers have received more value for money compared to other necessities

  • According to surveys, household intend to preserve telecom services if having to reduce their overall spend


  • Areas most at risk during a downturn l.jpg
    Areas most at risk during a downturn telecommunication sector: main challenges and opportunities

    • Consolidation of telecom spending

    • Mobile more exposed than fixed, particularly pre-paid

      • Easier to trade-down and optimise traffic and tariffs

      • High impact on some VAS: roaming, ringtones, wallpapers, voice substitution (fixed or messaging)

      • Slow down in the take up of new services that require handset upgrades

      • Significant impact on the low end users (i.e. immigrants)

    • Internet and fixed telephony are more stable with non variable monthly subscriptions

      • Line disconnection limited to home foreclosures (USA) or company closures (Spain)

      • Some migration from fixed to mobile broadband

    • Slow down in triple play growth

    • Enterprise. Lower consumption, company insolvencies

    • IT-related services shows mixed results: overall market contraction but telecoms have gained market share from a low starting point


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    Cashflow sustainability telecommunication sector: main challenges and opportunities

    Telecoms seek cash flow protection

    • Under the new scenario, telecom managements want to preserve cash flow, continue to de-leverage and maintain DPS

    • Adjusted EqFCF for the sector decreased from 2005 to 2007 but stabilised in 2008

    • Capex discipline (and absence of M&A activity) are essential for cash flow preservation and financial soundness

    • Most incumbents have guided to lower 2009 capex figures

    European telecoms operators - Adjusted equity free cash flow* (€bn)

    * Adj EqFCF for stocks covered, excluding non-recurring items and spectrum purchases, constant currency


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    Capex discipline telecommunication sector: main challenges and opportunities

    Fibre investment might be the wild card

    • As the correlation of telecom expenditure and private consumption becomes more evident, telecom companies also become more capex-conscious

      • Volume fall amid price deflation

      • Cost rigidity becomes an issue

      • Capex is the lever to pull

  • Capex prioritization

    • Spectrum costs and next generation network investments

    • However, companies have some room to manoeuvre

      • TEF says 2008 capex is peak, 75% of capex is transformation and growth, only 25% maintenance

      • FTE says 35%-50% of capex is for growth projects

      • PT says in previous crisis domestic capex was cut to 8% of sales

        Capex guidance

        TEF: capex 2008 €8.4bn, 2009 <€7.5bn (excluding spectrum auctions). Close to 50% in Latam

        Telecom Italia (domestic): 2008 €3.5bn (15.2% capex/sales), 2009 €3.3bn, 2010 €13.0-13.5% capex/sales.

        FTE: 2008 12.8% capex/sales, guidance 2009 12%-13% but has indicated it may go below 12% if market deteriorates. FTTH budget already delayed


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    Mobile spectrum costs telecommunication sector: main challenges and opportunities

    Investment needed in 2009-10F

    • Companies might be more interested in gaining additional mobile spectrum than in fibre investment

      • Mobile broadband growth is outpacing fixed broadband

      • Mobile spectrum is a scarce resource and a more clear competitive edge

    • Spectrum auctions in Western Europe could cost the industry €16.7bn by end 2010

      Spectrum costs are a downside risk for the telecoms sector as these costs are not fully reflected in consensus and management estimates

    See report Mobile spectrum auctions, published 16 Oct 2008


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    Fibre at its infancy in Europe telecommunication sector: main challenges and opportunities

    • Fibre economic model not yet proved

      • No clear killer application

      • Unpredictable economic turnaround

      • Lack of competing infrastructures due to funding issues (cable)

      • Higher cost of funding, limited access to new credit

    • Lack of total regulatory clarity surrounding fibre roll-out industry

      • Access to third parties, regulatory holidays, wholesale offers, ducts, network sharing, in-house wiring

      • Network or functional separation remains an issue for incumbents

      • Some recent measures taken by regulators could favour incumbents fibre roll-out:

        • Geographical segmentation (Portugal, UK)

        • NGN towards infrastructure-based model (NL, Spain, Germany)

        • Competitors’ ADSL assets risk being stranded

        • Regulated returns: increases in ULL and wholesale prices (BT, TI)

  • Incipient fibre roll-out

    • France is the most advance due to the existence of three strong players and political/regulatory support. However, all three existing players have scaled back fibre capex

    • Most other operators are deploying VDSL or have not yet started with fibre commercial offers

    • In some countries capex is backed by public funding (Sweden, Australia, Italy, Portugal, Germany, UK)


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    The Spanish situation: low visibility telecommunication sector: main challenges and opportunities

    • The economic situation is hitting Spain more than the rest of Europe

      • Telecom expenditure is more linked to private consumption (employment) than to other GDP components

      • Higher level of company destruction (particulary SoHo, SME)

      • Real Estate crash affecting new lines growth (and second home disconnections)

      • Competition becoming more intense

      • Lower economic visibility than in the rest of Europe

    • 1Q09 numbers severely hit by the slowdown

      • TEF Spain 1Q09 rev -6% adjusted, sector mobile -7.2%

      • 1Q08 sequential decline in pay-TV subs (Digital+ -34K, Imageneo -7.6K, ONO -23K)

      • Limited room for further headcount reduction?

    • Improvements in the regulatory framework but unexpected new threats looming ahead

      • CMT has already laid out key regulatory aspects

      • New tax on sales to fund private TV (0.9% on sales, circa €200m) on top of other levies (USO, spectrum costs)

  • No commercial offer yet

    • TEF: limited offer, no mass-market launch (Trio Futura, 30MB, HD-TV, DVR)

    • Orange: trials in Barcelona

    • Jazztel: no official plan yet

    • ONO: large capex cut to reduce leverage


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    The Spanish situation: a gloomy conclusion? telecommunication sector: main challenges and opportunities

    • Jean Marc Vignolles CEO Orange España (Cinco Dias, 1 junio 2009) “De momento los numeros no salen. No estamos en una situacion que nos permita tomar una decision de despliegue masivo en redes de fibra…para nosotros el proyecto prioritario y mas ambicioso es el que tenemos en movil con Vodafone para el uso comun de redes 3G. De momento la fibra no es el tema numero uno en comparticion”


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