DEALTALK-KPN Belgian sale hints at deeper retrenchment

Thu Apr 26, 2012 8:37am EDT

* KPN under pressure in home market of Netherlands

* Private equity, cable op may bid for Belgium unit-sources

* KPN to struggle to get high valuation for BASE-sources

* E-Plus could be next on the block

* Euro telcos weigh asset sales to defend home markets

By Leila Abboud and Victoria Howley

PARIS/LONDON, April 25 (Reuters) - As KPN weighs whether to sell its Belgian subsidiary, in the background lies a deeper question: Whether the Dutch telecom operator and others in the industry will retrench further to focus on defending their home markets.

Sources familiar with the company's plans say KPN is mulling a sell of BASE, Belgium's smallest operator, and wants 1.8 billion euros ($2.4 billion) for it.

They believe E-Plus, the third German player, which analysts value at a much heftier 6 billion euros and is the subject of perennial takeover speculation, could be the next to go.

Both assets were bought a decade ago, just as many of Europe's former state-owned monopolies, flush with ambition during the Internet bubble, planted flags far from home in debt-fuelled acquisition sprees.

Today KPN and its telecom peers are under pressure to reverse the decline in revenues and profits brought about by the competition-boosting regulatory measures and the rise of device makers like Google and Apple, whose messaging apps allow users to avoid charges for voice and text.

They also must invest heavily in networks to provide the extra capacity required to manage the smartphone and tablet revolution.

That need for funds is leading some, such as Germany's Deutsche Telekom, Spain's Telefonica, and France Telecom to question, whether they can still afford their foreign empires at a time when they no longer have a growth story to tell investors, and so need to cut debt and protect dividends.

Vodafone reaped roughly $25 billion by exiting France, Japan, China and Poland last year, while France Telecom left Switzerland and Austria with 1.67 billion euros.

"All these companies will have to retrench in order to deal with their debt burden and their need to invest in networks," said Robin Beinenstock, analyst at Bernstein Research.

"KPN probably has to sell something to be able to bid in domestic spectrum auctions this October and avoid a further credit rating downgrade."

With profits falling in its home market, KPN's debt ratios are creeping closer to its self-imposed ceiling of 2 .5 times EBITDA earnings, making it tougher for it to keep dividend pledges.

Selling its Belgian arm would buy KPN a little time. An exit from Germany, a growing business that requires steep investments to keep up with larger rivals, would be a bolder move.

KPN declined to comment on Thursday about a potential sale of E-Plus in Germany, but in February it said it was not a seller. The asset could interest Vodafone, the second biggest operator in Germany, or the smallest player there, Telefonica.

KPN also reiterated its earlier statement that it was weighing options for BASE and had not decided on a sale.

The decisions KPN and others large telecom companies make on whether to sell assets and at what price could alter the European telecom map in the coming years.

It's also opening the door for cash-rich private equity firms to scoop up mobile businesses at nearly decade-low valuations, since there are often few strategic buyers for these companies.

Private equity investors have a list of targets that reads like a who's who of distressed telecoms companies: Deutsche Telekom and France Telecom's joint venture in the UK, Deutsche Telekom's Dutch business, KPN's E-Plus, Telefonica's Ireland and Czech Republic subsidiaries.

BELGIUM AUCTION

Since KPN's announcement last week, potential bidders for BASE including cable operator Liberty Global's Telenet and private equity firms such as Bain, Apax and Providence have taken a closer look at the market, although no formal sale process has begun, said people familiar with the situation.

Telecom tycoons such as France's Xavier Niel and Egypt's Naguib Sawiris have also been on the prowl for assets in Europe so may look at BASE.

But KPN is unlikely to attract offers for BASE at valuations as high as those won by France Telecom when it touched off a bidding war among private equity funds before selling to Apax Partners for 1.6 billion euros.

Multiple sources evaluating the potential process said BASE's operating margins were already quite high because of KPN's cost-conscious management, making the deal less attractive for private equity, which usually looks to buy cheaply and squeeze out extra efficiencies.

They also pointed out that overall telecom sector valuations have fallen since the beginning of the year, with investors ascribing price-to-earnings ratios near 10-year lows.

One person who tracks such deals predicted that France's Swiss sale would be the high point with valuations on similar divestments only going down from here.

"In France Telecom's Swiss unit there was a lot to be done, so private equity bidders could build an investment case around improving the branding, cutting costs on everything from information technology to stores, and expanding in German-speaking regions," said one source.

"But since BASE has been run as a low-cost operator it will be very difficult for private equity to create value."

In Switzerland, France Telecom's operating margins were around 28-29 percent last year, while BASE had margins of 35 percent.

The sources also said some 30-40 million euros of investment would be needed to upgrade BASE's mobile network for mobile data use and compete with larger rivals Belgacom and Mobistar, which is majority-owned by France Telecom.

On the positive side, the small Belgian mobile market is more profitable than Britain or Germany because operators don't usually subsidise mobiles for customers, analysts say.

Plus since large majority of BASE's customer base consists of pre-paid users without long contracts, there is an opportunity to grow by targeting more high-end smartphone users.

Nick Brown, an analyst at investment bank Espirito Santo, said it was hard to predict what KPN would accept in terms of price for BASE.

"I think the market would be disappointed if KPN was unable to sell BASE or sold it too cheaply," he said. "We believe KPN's management would like to show investors that it knows how to exit its markets well, especially since a potential future sale of its German unit might be one attraction for the shares."