Proposals could impact investment in networks
Proposals by the Valuation Office Agency (VOA) to apply materially higher business rates (local taxes) on infrastructure could lead to downside EBITDA risk for a number of the UK telecom operators and potentially reduce the incentive for infrastructure investment. The proposals were announced on 30 September and companies including BT and Virgin Media (LBTY) could potentially see a fourfold increase in their business rates longer-term. BT is currently appealing the issue.
Worst-case scenario - low-mid single digit downgrades to LT EBITDA
The proposals would change the rateable values and multiplier that are used to calculate the business rate liability payable. BT has highlighted that under the current proposals they would see an effective increase in payments of £250m p.a., but with the increase phased in over a five year period. In a worst-case scenario, this would represent a potential 3-4% downgrade to EBITDA for BT longer-term. Infrastructure for Virgin Media only covers c50% of the country so their absolute payment p.a. would likely be lower than BT's, but they would likely be subject to a similar percentage increase. Virgin Media has EBITDA of c£2bn p.a.
Impact dependent on pass-through to wholesale charges and consumers
Excluding any further revisions to the proposals, and assuming they materialise, we would expect the EBITDA impact on operators to be less than in the abovementioned worst-case scenario. In the case of BT, the changes would primarily relate to Openreach and markets that Ofcom regulates with charge controls. The increases in charges would
therefore be likely to be passed through to the retail divisions of BT and other wholesalers including Sky and TalkTalk. The impact on retail operator profitability would then depend on whether charges are passed through to consumers. For Virgin Media, it would not have the offset of higher wholesale revenues but may be able to pass the increase in business rates through to consumers.
Remain cautions on BT, positive on Vodafone and Sky
Of the UK telecoms we remain cautious on BT given concerns around the pension and competition (footprint expansion by VMED in fixed line/Sky entering mobile). On
Vodafone we expect that operational gearing has been underestimated and believe
there is M&A optionality should VOD undertake a broader deal with LBTY. For Sky we
expect increased comfort on EPS momentum from FY17 to drive a rerating of the stock.