TheChek News Flow

* Slowing Liberty growth may aid valuation parity and premium negotiations

*Malone needs to be convinced of Vodafone growth - bankers

*Liberty debt and differing philosophies remain a hurdle

Deal talks between Vodafone [LON:VOD] and Liberty Global [NASDAQ:LBTYA] could be facilitated by the latter’s declining growth rate and valuation, bankers and a top Vodafone minority investor said.

Not enough has changed since asset swap talks were terminated in late September, to significantly facilitate another attempt at reaching agreement, the bankers believed. Valuations appear to have narrowed but not enough of a parity has been reached, they argued.

As it stands, Liberty Global’s price expectations are not in line with Vodafone’s, a source familiar with the situation said. When you have valuations that are rich already, it is difficult to justify a 30%-40% premium for either party, a second source familiar said.

But Liberty Global’s growth is believed to have peaked and is now slowing, analysts pointed out. Should this continue, the parties will reach the valuation balance needed to get a deal done quicker than if relying only on Vodafone’s continued growth, the said.

Short-term dips in Liberty Global’s share price will not encourage a deal, bankers said, referring to a downgrade by Morgan Stanley on 11 January. Liberty’s share price has fallen from USD 37.09 before the downgrade to around USD 34.79.

But one Vodafone analyst, taking a forward-looking approach, estimated Liberty Global would eventually be trading at 8x and Vodafone at 7x EV/EBITDA, based on the companies’ own projections. A second analyst said the previous four-point gap between the two companies’ multiples was gradually narrowing and there was currently only about a three-point gap between the two.

Liberty Global and Vodafone are currently trading at 9.9x EV/EBITDA and 7.34x EV/EBITDA on a trailing 12-month basis, respectively. This compares to Liberty at 11.6x and Vodafone at 7.46x on 4 June, the day before the companies confirmed they were in asset swap talks.

Vodafone would likely pay for Liberty Global using a significant share portion, leaving chairman John Malone with a large minority stake, bankers and the investor pointed out. Malone would be more receptive to the idea of holding a stake in Vodafone as a result of the UK group’s growth prospects, bankers said. A significant share portion would reduce premium expectations due to the greater upside seen in being part of the combination, the first banker and investor said.

Management structure could also alleviate the need for a substantial premium, the second source familiar said. If either CEO steps down, the deal would be seen as a takeover, with a requirement for a takeover premium. If Malone were to become Chairman, this would be addressed, the source said.

Dilution and Malone’s influence on the management board are not big concerns, despite the cultural differences between the two companies, the investor added.

But Malone still needs convincing this is the right outcome for his company, bankers said.

The first banker referred to statements made by Malone when he owned a stake in AT&T. Malone became a significant minority shareholder in AT&T after selling the US telco his cable company, Tele-Communications. Malone was critical of AT&T’s then-chairman and the telco’s disappointing performance at the time. The banker pointed out that Malone would be extra cautious in deciding to become a large minority shareholder in a telco again.

Both Malone and investors need more evidence of Vodafone’s growth before talks can move to a high-level stage, the bankers said.

Vodafone’s full-year results (for the year ending 31 March 2016), usually published in May, need to show continued top-line growth and further proof of returns from Project Spring, its network-investment programme, for the company to be in a strong negotiating position, the first two bankers said.

When presenting its first-half results in November, Vodafone said its full-year results may beat its initial forecast. Investors will also be looking for guidance on the next financial year, the Vodafone investor said.

Vodafone executives are not discussing a merger or acquisition, it was said. The parties and bankers continue to think about ways in which a deal can get done but a solution is seen as complex and potentially far off, it was added. Reports that a GBP 140bn merger is imminent are inaccurate, it was said.

Vodafone’s communications with shareholders have not hinted at an imminent deal, the investor said, adding he would be surprised if a deal was announced this quarter. “Time is on Vodafone’s side,” the investor said.

Liberty Global’s debt level continues to be potentially problematic in reaching agreement, the bankers and sources said. Its gross leverage is 5x, according to its Q3 2015 results, published in November. A balance would need to be found to do a deal, the investor agreed.

The fundamental difference in the two companies’ philosophies is a bigger issue, the second source said. Liberty likes leverage, Vodafone is the opposite, the source said, adding that Liberty likes share buybacks while Vodafone likes dividends.

Vodafone would look to de-lever Liberty post-merger or acquisition, which could put its dividends policy at risk, the first banker said. Figuring out a capital structure that works for both is therefore still seen as difficult, it was said. However, threats to dividend will only concern certain types of investor, the investor pointed out.