Billionaire Malone Finds Love Match for Virgin Media

(Bloomberg Opinion) -- Investment bankers will have to find something new to gossip about. The perpetual “Will they? Won't they?” of European telecommunications dealmaking is finally happening.

Billionaire John Malone's Liberty Global Plc has found a potential match for its U.K. broadband unit Virgin Media and is negotiating to merge it with Telefonica SA's local wireless provider O2, Bloomberg News reported on Friday. The combined company would become only the second provider in the U.K. offering both fixed-line and mobile service next to former national carrier BT Group Plc.

The logic of the deal is sound from a corporate perspective. The ability to offer broadband and wireless service in one offering lets operators not only cross-sell products more effectively, it also makes customers less likely to jump to a competitor. It's harder to change your mobile, broadband and television provider all at once than it is just one of those services. If managed effectively, the combination could also reduce costs. The U.S. and most of Western Europe already have several so-called converged operators. That the U.K. has just one makes it all but unique. And it fits Liberty's strategy of finding a partner for its cable operations in Europe: It's already done so in Germany, the Netherlands and Eastern Europe, though efforts in Switzerland have been stymied.

Virgin Media has long been the favorite deal-target gossip topic of European telecom bankers, with O2 and Britain's Vodafone Group Plc considered the likely suitors. Liberty Chief Executive Officer Mike Fries has done little to downplay the speculation, saying as recently as February that it was “continuing to explore strategic options in the market.” The proposed deal, which could be announced as soon as next week, would leave Vodafone out in the cold — but the company has restricted capacity for takeovers right now anyway, having completed the acquisition of Liberty's cable operations in Germany and Eastern Europe for 19 billion euros ($21 billion) last year. Telefonica, having already set O2 up as a standalone unit in anticipation of an initial public offering that was ultimately called off, is better prepared for a merger.

The model for the combination might nonetheless be another Vodafone-Liberty transaction. The two firms combined their fixed and wireless businesses in the Netherlands back in 2016 to form VodafoneZiggo Group BV. They targeted synergies of 210 million euros, of which 85% have so far been realized, and which represented a healthy 8.6% of 2016 revenue. If even half that proportion of savings are feasible in merging O2 and Virgin Media, then it would represent a lot of value creation, based on the two firms' combined 2019 revenue of $14 billion.

That's surely an attractive proposition for Telefonica, whose chief executive officer Jose Maria Alvarez-Pallete started a drastic refashioning of the Spanish firm last year following a steep stock decline. That might also mean that he needs the deal more. Nonetheless, Liberty may have to put some money into the transaction if it's to be a joint venture. While Virgin Media is more profitable on an operating basis, it has higher capital expenditures. Goldman Sachs analysts give O2 an enterprise value of 12.4 billion pounds ($15.5 billion) and Virgin a valuation of 12.3 billion pounds on the same basis.

The timing is opportune, given the impending deployment of 5G networks. It means the combined firm can plan the rollout of its fiber network efficiently, to ensure it feeds the antenna needed for the 5G. What's more, Britain's departure from the European Union means it's no longer subject to the intervention of pesky Brussels regulators, who have historically been wary about telecommunications mergers which might lift consumer prices.

It's a combination that's long overdue, but it's coming just in time.

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Alex Webb is a Bloomberg Opinion columnist covering Europe's technology, media and communications industries. He previously covered Apple and other technology companies for Bloomberg News in San Francisco.