O2 and Virgin Media join forces in recently agreed broadband and mobile merger in the UK

Posted on by gugliasant

(Giorgio Curti)

On May 7th, an agreement on a merger between broadband giant Virgin Media and mobile provider O2 was announced by the owners of the two companies, which belong to the multinational groups Liberty Global and Telefonica, respectively. 

Virgin Media provides broadband access and cable TV to around 6 million users, as well as having 3 million mobile customers. O2, on the other hand, has around 34 million mobile phone users. These numbers make the proposed deal particularly attractive for the two companies, as they can aspire to challenge telecommunications giant BT. 

The Deal 

The deal values O2 at £12.7 billion and Virgin Media at £18.7 billion, leading to a £31 billion mega-merger. The new 50-50 joint venture business would have nearly 46 million customers, and £11 billion in annual revenue. According to statements by Liberty Global and Telefonica, the transaction is expected to be closed in the middle of 2021. 

Summary Financial Information for Virgin Media and O2 as at 31/12/19 

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The owners of the companies claim the merger will enable them to enjoy greater economies of scale and synergies, by combining O2’s substantial presence in the mobile network market with Virgin’s widespread broadband and superfast broadband coverage. Indeed, both parties expect synergies valued at £6.2 billion on a net present value basis after integration costs, equivalent to annual benefits of £540 million by the fifth year post-closing. These would be comprised of £350 million of cost savings, approximately £80 million of capex, and £110 million of revenue synergies. The new company would invest £10 billion in the UK over the first five years of operations, according to official statements – much of this sum would be channelled towards extending superfast broadband and 5G networks in the country. 

Doubts have arisen regarding the potential negative effects of the merger on the UK telecommunications market: consumer group “Which?” called the Competition and Markets Authority (CMA) to investigate the deal, among concerns of increased concentration in the market. 

State of the market: the UK telecoms oligopoly 

Telecommunication use in the UK has witnessed a steady increase over the last decade, to then skyrocket during the coronavirus outbreak, as people now spend more time in their houses, communicate more online, and often work from home, too. 

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In the fourth quarter of 2019, data usage in the UK increased by 35.7%. In the mobile network market, BT holds the largest share, at 28%. However, O2 is not far behind the former monopolist: its market share is now 26%, and accounting for Virgin’s 4%, the new JV’s market share would actually be slightly higher than BT’s. 

As to the fixed broadband market, BT is by far the largest player, with a 37% market share as of 2017, when the latest detailed data were released. At the time, Virgin Media came third, with a share of around 20%, very close to Sky’s 24%. The number of broadband lines in the UK saw a slight increase in the last quarter of 2019, bringing the total to 26.8 million. However, as anticipated above, we are likely to observe a spike in fixed broadband use once the Ofcom data for the first quarter of this year are released and the coronavirus effect is recorded. 

Despite having a considerably smaller market share than BT, Virgin Media can boast the fastest broadband connection on the UK market. If the expected synergies from the deal are indeed realised and costs are somewhat lowered, this might make Virgin Media a rather dangerous competitor for Sky and even BT in terms of fixed broadband. 

Overall, the telecommunication market in the UK is considered to be highly concentrated, with an HHI score of 2,100 for mobile networks and a three-firm concentration ratio of 81% as to fixed broadband. With large firms not faring spectacularly in terms of customer satisfaction, concerns around the effects of even higher market concentration may appear to be reasonable. 

Prediction 

Our prediction is that the merger be given the green light by the CMA, much like the 2016 BT-EE merger. Indeed, by expanding the range of services available to either company into the other’s field of expertise, greater economies of scale and significant synergies are indeed likely to lead to considerably lower costs. However, it remains unclear whether these would effectively be passed on to customers in the form of greater value for money. 

Thanks to Virgin Media’s uniquely high broadband speed and O2’s large mobile coverage, however, the new company is set to be a particularly strong competitor for BT, and will most likely outperform rivals such as Vodafone and Sky. In this regard, the possibility that a bidding war is started by Vodafone is not to be excluded, since the merger would leave the company lagging behind significantly in terms of competitiveness. 

Overall, the combination of greater synergies and enhanced competition with BT seems to be potentially paving the way to better deals from the UK’s biggest internet providers. 

Definitions 

Joint Venture (JV): a business entity in this case created by two parties, with equally shared ownership, returns, risks and governance. 

Ofcom: short for Office of Communications, it is the UK’s communications regulator. 

HHI: Herfindahl-Hirschman Index, a measure of concentration in a market. It is obtained by summing the square of each company’s own market share, among the totality of the firms in the market. 

Concentration ratio: the market share held by the n largest firms in a market, in this case the largest three. 

Resources 

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