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Summary

Australian challenger telcos Vodafone Hutchison Australia and TPG have agreed on merger terms, with new listed arm TPG Telecom to be 50.1% owned by Vodafone. Vodafone's Inaki Berroeta will be chief executive, while TPG (to emerge with a 49.9% stake) boss David Teoh will become chair. 5G's imminence and its strategic importance are the reasons behind the merger of these two, which have been rumored in the past to have tried to ink a tie-up but failed. But 5G's high costs, build complexity, and long tail of revenue bring a sense of urgency to M&A. 5G was the primary catalyst for the planned T-Mobile-Sprint merger in the US. Interestingly, SoftBank and Deutsche Telekom had also tried to merge in the past as well. It seems 5G can break down all prior business issues to create the final straw that makes sense for these mergers. If the US and Australia have the sense to rationalize the market, we urge other countries to follow suit.

Three is the magic number for operators in most countries

It totally makes sense for Australia to consolidate to three players – Telstra, Optus, and TPG Telecom. If T-Mobile US and Sprint can combine to create three large players in the US, why not Australia with 10% of the population?

Ovum has long argued that having three players is most viable in most markets in the long term. At the very least, we see three players emerging with at least 80% of the market long term. Beyond three, the economics and longevity of providers are risky. Fourth and fifth providers are always disruptors that have a hard time reaching profitability, tend not to scale, and drag down the profitability of the others.

The long-term outlook for the operator becomes more challenging – disruption will become more frequent, payment much longer for any investment, and the climb to profitability much steeper. We forecast telecoms (voice, messaging, and data) revenues for operators in 2025 will be less than in 2010. This new world requires operators to rethink their place in the value chain – not every operator stands to emerge as a Tier-1 operator like China Mobile. Scale plus 5G's cost, complexity, and uncertain business case make more operator consolidation inevitable.

TPG Telecom will take sting out of price aggression

Telstra, Optus, and Australia's MVNOs have to be breathing a huge sigh of relief at TPG Telecom's formation (which is still subject to regulatory approval). The merger should create more pricing stability in the market. For Vodafone and TPG, there is cost rationalization and savings with one, not separate, 5G networks. TPG Telecom will have around 18% mobile market share, compared with almost 29% for Optus. In fixed broadband, it has a lead of about 10 percentage points over Optus, with 25% share. TPG Telecom, however, earns about A$2bn less revenue per annum than Optus.

Should Optus be concerned? We think not. It will welcome less aggressive price competition, and its business case is different, with Optus preferring to play more like a Tier-1 player (e.g., investing in content rights to differentiate and ramping up its enterprise business) than a third-ranked challenger. Therefore, it will need to continue to nip at Telstra's heels, including keeping up with it on building out and commercializing 5G. Telstra should also not be so concerned for some of the same reasons. Moreover, not having to focus on another new competitor allows it to complete its current reorganization and focus on its 5G buildout.

Appendix

Further reading

Digital Economy 2025: Communications Service Providers, TE0009-001490 (December 2015)

"Australia's fourth mobile hopeful gets 700MHz spectrum, but that only delays M&A, which is inevitable," TE0009-001627 (April 2017)

Author

Nicole McCormick, Practice Leader, Broadband and Multiplay

nicole.mccormick@ovum.com

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