On Thursday morning, Vodafone (VOD) confirmed that it is in talks with Verizon Communications (VZ) to sell its 45% stake in their U.S. wireless joint venture, Verizon Wireless. Shares in Vodafone closed up 8.1% to $31.80 on Thursday, following the news.
The deal worth around $130 billion is likely to consist of both cash and stock. This should leave Vodafone with net cash proceeds of around $50 - 60 billion with the remainder in Verizon stock. However, how much net proceeds Vodafone actually receives has much to do with its potential tax liabilities, which may ultimately be determined by the structure of such a deal. Although Verizon has said it was "confident" that a deal could be structured without major tax implications for Vodafone's shareholders; it is ultimately Vodafone's responsibility to ensure it is getting the best possible offer.
In July this year, Vodafone announced a €7.7 billion (around $10.2 billion) acquisition of Kabel Deutschland, Germany's largest cable television operator. The addition of cable products would allow Vodafone to offer packaged bundles of phone, broadband and TV solutions, commonly referred to as triple-play bundles, to households in Germany. Unfortunately, Kabel Deutschland only has the infrastructure to reach 13 out of 16 German states. This means that, in order to serve the remaining one-third of Germany's population, it must lease capacity from its rival, Deutsche Telekom (OTCQX:DTEGY).
Vodafone may consider further expanding its cable television offering across the rest of Europe through further acquisitions. One possible target would be Liberty Global (LBTYA); which earlier this year acquired Virgin Media, the UK's largest cable provider for $23.3 billion. Liberty Global has cable interest across Northern and Central Europe, including Germany, the Netherlands, Austria, Switzerland, Poland and Romania. Many of these countries overlap where Vodafone has significant wireless operations, and could help Vodafone offer triple-play bundling solutions. However, such a deal may force Vodafone to dispose some of Liberty Global's cable operations in Germany; in order to satisfy Germany's cartel office.
Unfortunately, cable operators are currently trading at significant premiums to European wireless outfits. Vodafone's acquisition of Kabel Deutschland is valued at a ratio of EV/EBITDA of 12.4. At $130 billion, Vodafone's 45% stake in Verizon Wireless is valued at an EV/EBITDA of only 9.9. European wireless carriers are even cheaper. Hutchison agreed to buy Telefonica's unit in Ireland at just 7.1 times EBITDA, in June this year. Without evidence of cost savings and substantial gains from bundling with cable products from its acquisition in Germany, Vodafone may be cautious with further expansion.
It is more likely to strengthen its wireless businesses in Europe, Africa and Asia through acquiring smaller rivals in countries where its presence is currently too small, especially in Southern Europe and across Africa. Europe is filled with small competitors who lack the resources to develop infrastructure to enable faster speeds: and many of them could be acquired on the cheap, especially as European players, such as Orange (ORAN) and Telefonica (TEF) look to reduce debt and exit non-core markets. An acquisition of any of the big European carriers, in particular, Orange is likely to be blocked on competition grounds: which is a real shame given their low valuations and high debt load.
Vodafone may present itself as an acquisition opportunity
Earlier this year, AT&T (T) has said that it was interested in expanding into Europe; after a failed attempt to acquire T-Mobile USA in 2011. There had been rumors that it had been interested in working with Verizon to acquire Vodafone, such that Verizon would get its stake in its wireless joint venture, whilst AT&T would be left with its European, African and Indian interests. When that plan did not come to fruition, AT&T was said to have explored opportunities with Telefonica. Unfortunately, until now, AT&T has yet to announce any progress on this front.
Vodafone would become especially attractive to AT&T because of the low valuations many European telecoms are currently trading at. It is, in particular, interested in Vodafone's presence in Northern and Central Europe, including the U.K. and Germany. As a much smaller company, AT&T could also take advantage of its higher market valuation and low interest rates to finance an acquisition of what is left of Vodafone.
Special dividend is perhaps best
Vodafone's shareholders are likely to demand that a significant proportion of the net cash proceeds would be returned to themselves in the most efficient manner. This is most likely to take the form of a special dividend, similar to the one carried out in 2012 following the $10 billion dividend payment from Verizon Wireless to its parents. Alternatively, Vodafone could carry out a share repurchase program; or perhaps a combination of the two. However, given the likely size of the net cash proceeds, a share repurchase program could take substantial time to complete; and would leave much of the cash stockpile sitting idle. A special dividend would much more quickly return cash to shareholders; so that they themselves could reinvest.
Limited acquisition opportunities may well mean that returning excess cash to shareholders may be the best way to deal with the proceeds of the sale. Moving into cable and offering triple-play solutions seems like a costly route at the moment. But, this does not mean that the sale of its U.S. wireless venture is not in the best interests of Vodafone shareholders: it would almost instantly resolve the long standing discount on its valuation due to its complete lack of operational control, and allay fears over cash flow and dividend policy.
Small bolt-on acquisitions in wireless may still offer much shareholder returns, especially if Vodafone can build up scale in those markets to deliver operational efficiency. This would leave much of the net cash proceeds for a substantial special dividend. The Financial Times has cited that Nomura, an investment bank, expects Vodafone to pay a special dividend totaling $30 billion: that is around than $6.10 per ADR.