French mobile potential consolidation a win, win, win situation?
Reiterating Buy on Orange/NUME, Iliad Buy from Hold, TPs E17.9/50/266 resp.
Following Journal de Dimanche (JDD) speculation, Orange confirmed talks with Bouygues aimed at merging with Bouygues Telecom (B.T.). The French regulator/government are open to it if competition is preserved, Orange’s
market share unchanged, investments enhanced and jobs preserved. We show in this 50-page report how a deal could be structured so that Bouygues, the government and three remaining players (Orange, NUME, Iliad) all win. We increase TPs by 12% for Iliad and 3% for Orange while NUME’s is unchanged.
Expect Iliad to pay E4.2bn, NUME E2.6bn, Orange E2.7bn; no Orange dilution
We assume E10bn will be paid for B.T.: E6bn in cash and E4bn in existing Orange shares (2.2% bought from the government diluted to 20.8% but still maintaining 3 seats on the BOD, 7.6% bought on the market), with the bulk of B.T. subscribers, spectrum, mobile antennas, shops and employees of the related assets bought by lliad and Numericable for E4.2bn and E2.6bn respectively, which leaves E2.7bn for Orange. Resulting debt/EBITDA would be 2x pre-market repair benefits for Orange, 3.7x for NUME and 2.7x for Iliad, with market shares balanced: Orange at 39% in mobile post-paid vs. 37% now, NUME at 34% vs. 29% and Iliad at 25% vs. 18%, which is extremely important for the health of the French market: reaching its 25% l/t target through the acquisition and needing to protect its new high value customers should mitigate Iliad’s aggressiveness but not kill its maverick spirit, which is precious to regulators. Spectrum shares – 40-33-27% resp. (37-32-32 low frequencies) – would mirror mobile market shares, allowing Iliad to grow further.
Market repair value creation E7.6/3.2/0.8bn ORA/Iliad/NUME on existing clients
We estimate cumulated E1.3bn EBITDA will be generated by B.T.’s assets once sold to the three players vs. E0.9bn B.T. EBITDA guidance for 2016. This implies a E0.4bn run rate of synergies, or E2.5bn NPV, to be added to the market repair benefit on the existing client base. Resultant post-synergies pre-market repair) EV/EBITDA paid would be 7.2x for Iliad, 7.5x for NUME and 9.8x for Orange, reflecting lower integration risks taken vs. the other two players. We see mobile ARPU trending to E23.4 by 2020 for Orange and NUME, 9% above our (pre-consolidation) models: 0.8/0.9% CAGR 2015-20, below French inflation forecasts, is consistent with Orange CEO commitment not to increase prices. We expect additional benefits from lower churn and handset subsidies, in line with Austria. We embody the related value creation in our target prices, assigning a 70% probability (given more visibility on the potential consolidation) to consolidation. A government blessing could well be aimed at seeing Orange active in cross-border consolidation. Iliad/Xavier Niel are looking for assets outside France too. If France provides resources for expansion, a healthy French market is needed by all players.
Iliad a play on consolidation, Orange/NUME have upside even if it fails; risks
We see 13% upside potential to TP for Orange, 18% for Iliad and 44% for NUME, assuming 70% probability of consolidation. Should consolidation fail, upsides would be +3/-3/+39% respectively and, if it succeeds, +17/+26/+48%. We use DCF-based SOTP to derive our target price, with WACCs ranging from 7% to 13.3% (Orange’s African assets) and g from 0% to 5%. See details in the note. Risks: 1) consolidation talks stop, 2) M&A destroying value, 3) Orange/Iliad potential buyers in cross-border mergers. We argue consolidation should not affect Orange in the fibre roll-out because Iliad’s roll-out plans would be above Iliad’s plus Bouygues’ current ones.