Financing the future: trends in telecoms
Jonathan Tweed, head of TMT Finance, London, and Arnaud Burger, co-head of the TMT Industry Group
The social and economic dependence on telecom networks is now so well-developed that the sector has transformed into a utility, with people relying on their broadband as much as their gas, electricity and water. But, while Covid-19 has served to affirm this new reality, the legacy networks are neither fit for purpose or future proof, particularly in the face of the massive explosion in data demand and the need for guaranteed internet coverage.
The provision of finance for fibre is relatively complex, although not as risky as it was when the sector was in its infancy. Some of the complication comes from the nature of the participants and the dynamic way in which roles and financial capacity have changed.
Societe Generale is a leading bank in fibre financing, underwriting debt and advising on a total of 29 transactions with a combined debt issuance of over €19 billion. We have completed 16 projects in France, a country that has been very coordinated in its approach to fibre financing that has put the country ahead of the game in Europe. The UK and German markets need to catch up: the UK has the highest use of internet data in Europe but has one of the lowest penetrations of fibre, and it is a similar story in Germany. In recent months, we have executed four fibre deals – two in Germany and two in the UK.
Booming or bust
We all use more and more telecom, which creates the perception that this is a booming sector, although this is far from the truth, with the shares of European telecoms companies performing badly on the stock exchange.
The main problem is that the provision of telecom services is a commodity. When you buy bandwidth, there is enough competition to create downward pressure on prices, which eats into profits. Furthermore, the cost of delivery is going up as a result of regulatory constraints. The entire industry is cutting costs with telecom operators running to stand still.
While some players are doing better than others, the industry is flat overall, with capital expenditure going up as increased data usage creates demand for more capacity and speed that will culminate in the capex requirements of fibre rollout and 5G. As free cashflow goes down, share prices have fallen.
Possible solutions are based around infrastructure sharing, change to business models and the chase for growth. Infrastructure is the most important of these and is where we, as a bank, can have the most impact.
Until recently, the European Union’s competition regulator has largely blocked national consolidation. As a result, operators have looked to share network access to reduce costs or converge fixed and mobile products to produce synergies and reduce customer churn. The further twist is that telecom operators tend to trade at an enterprise value of around six times Ebitda (earnings before interest, taxes, depreciation and amortisation), while telecom infrastructure players, such as mobile tower companies, are valued at 15 to 20 times Ebitda. In five or 10 years, we think this mutualised infrastructure will be owned by investors with a low cost of equity and low return requirements, such as pension funds, due to the fact that this is a safe and fundamental infrastructure.
Alongside this development, the interest and involvement of infrastructure funds has been piqued. While telecom operators generally do not have the financial means to pay for 5G and fibre, the infrastructure funds (including sovereign wealth and pension funds) not only have money but are used to investing in core infrastructure – such as ports, motorways, airports – which matches their need for safe investments. Telecoms infrastructure delivers a higher return, mainly due to its acceptance as core infrastructure.
Ten years ago, telecom was not considered infrastructure enough, largely due to the amount of demand risk, which has reduced as its value as a core infrastructure has gone up. Covid-19 has served to confirm the necessity status.
Enter the bank
Societe Generale has led the way in providing structured financing to help telecom corporates and alternative network providers fund the substantial capex required and fill the gap left by stretched corporate balance sheets.
This major change in the structure of investment by telcos is arriving as the previous trends, of convergence and in-market consolidation that promised a reduction in customer churn through cross selling multiple products, near their natural end.
The chase for growth has also been expressed by placing content at the forefront, although the success of this strategy has yet to be proven. The commodity nature of telecoms has made it hard for operators to stand out from one another, which has made for a choice: either distribute to everyone and amortise your cost over a large base but lose your competitive advantage; or, become exclusive to your own subscribers, creating differentiation, but lowering the base across which you amortise the cost.
An alternative approach has seen some companies invest in businesses outside of telecoms, with Orange, for instance, developing Orange Money and becoming a bank. This is not easy to do because the capabilities are different and these companies have to go through mergers and acquisitions, which are expensive and difficult to execute.
The advantage of creating a franchise that specialises in advisory as well as the provision of debt to a scale that ensures a leading role in these financings is that you gain a deep understanding of the dynamics of the sector and a close relationship with most of the players.