T-Mobile UK to go into joint venture with Orange

by Caroline Gabriel

Two of Europe’s largest telcos, Deutsche Telekom and France Telecom, are to merge their UK mobile arms, as FT’s Orange emerged as the favoured partner for T-Mobile UK last night.

Rival bidders Vodafone and Telefonica O2 had both bid £3.5 billion ($5.7 billion), but this was said to be too low for DT – recent improvements in T-Mobile UK’s performance had raised hopes of a valuation of over £4 billion for the unit. Instead, the two telcos intend to create a 50:50 joint venture in the UK, and hope to finalise negotiations – and regulatory clearance – by November.

This will create a clear market leader, with combined 37% market share by customer numbers (over 28 million), leapfrogging current leaders O2 and Vodafone (which have 27% and 25% share respectively. Orange currently has 22% and T-Mobile 15%). However, the resulting JV would not break the 40% barrier that some believe would spark close scrutiny by antitrust authorities in the UK and EU – as the other two bidders’ deals would have done.

The merged entity would have annual revenues of £8.8 billion and the companies expect opex savings of £445 million a year by 2014. The potential for cumulative capex savings, net of integration capex, is estimated at £620 million ($1 billion) in 2010-2014, and will stabilise at about £100 million a year from 2015. However, integrating the business will cost between £600 million and £800 million, including cuts in retail store network, cell sites and probably in the 19,000-strong combined workforce.

Consolidation in the overcrowded UK market will actually benefit all the players, as Vodafone has repeatedly made clear, with the potential to dampen down the raging price war in Europe’s most competitive mobile territory. However, it will leave 3 UK looking very small – and the future of its RAN sharing deal with T-Mobile will also have to be considered in the fine details of the Orange-DT plan.

Initial analyst reaction was positive – acting alone, both parties were struggling to make an impact, in terms of marketing clout, distribution or high profile exclusives, against the big two. Now O2 and Vodafone will have a serious competitor for the high end, as well as in the prepaid price war. The unit will retain both brands for the first 18 months while the partners review brand options.

The cat was almost out of the bag yesterday when France Telecom CEO Didier Lombard failed to deliver his keynote address at the Broadband World Forum in Paris, presumably because he was finalizing the T-Mobile deal. Both parties said in a joint statement that the merger would bring “substantial benefits” to UK consumers, expanding network coverage and enhancing indoor and outdoor network quality for 2G and 3G, and putting the operator in a better position to invest in new services and technologies.

Assuming the transaction goes through, the JV will be led by Orange UK’s CEO Tom Alexander, with Richard Moat, T-Mobile UK’s turnaround CEO, as COO.

To create the JV, DT would contribute T-Mobile UK on a cash-free, debt-free basis, including its 50% holding in its 3G RAN sharing JV with Hutchison 3 and gross tax losses carried forward of at least £1.5 billion. France Telecom would contribute the whole of Orange UK including £1.25 billion of intra-group net debt in order to equalise the value of the contributions to the venture. On closing the deal, DT would grant a £625 million shareholder loan to the JV, to reimburse £625 million to its partner – giving the new entity debt of £1.25 billion, or a loan of £625 million apiece from the stakeholders.

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