Vodafone’s Pain Is Seen Boosting Chance of Verizon Deal

Verizon Communications Inc. may be in its strongest position ever to obtain full control of Verizon Wireless from its venture partner Vodafone Group Plc.

Verizon Communications shares have risen 22 percent in the last two years. During the same time, Newbury, England-based Vodafone’s stock lost 7.8 percent in U.S. dollar terms as it suffered the longest stretch of sales declines in at least seven years because of heightened competition in Europe coupled with an economic slowdown. That divergence helped push the second-largest U.S. phone company’s market value higher than Vodafone’s in December for the first time in a decade, according to data compiled by Bloomberg.

Almost 14 years after forming the Verizon Wireless joint venture, now may be an opportune time for Vodafone to sell its 45 percent stake to gain cash to help shore up its business in Europe, said Sanford C. Bernstein & Co., which estimates the holding is valued at more than $115 billion. New York-based Verizon Communications, with a market capitalization of $122 billion, also could acquire Vodafone to gain full control of the venture and its 98 million customers, and then sell off the international assets, said New Street Research.

“It’s the most attractive wireless asset probably in the world,” Robin Bienenstock, a London-based analyst at Bernstein, said in a telephone interview. “It’s the best time for realizing value in Verizon Wireless -- there will never be a better moment.”

Today, Vodafone rose 3.2 percent to 168.65 pence, the biggest gain since Aug. 1. It was also the largest increase among 20 telecommunications stocks in the Stoxx Europe 600 Index. Verizon declined 0.5 percent to $42.59.

‘Willing Buyer’

Vodafone, then called Vodafone AirTouch Plc, and what was then known as Bell Atlantic Corp. agreed to create the mobile company in 1999 and began selling service under the Verizon Wireless brand in 2000.

“I don’t think there’s any difference today than there has been over the past 10 years,” Fran Shammo, chief financial officer of Verizon Communications, said in a phone interview this week. “If Vodafone wants to sell their 45 percent, if they are a willing seller, then we are a willing buyer.”

Simon Gordon, a spokesman for Vodafone, declined to comment on a potential change to the company’s Verizon Wireless holding. Vodafone Chief Executive Officer Vittorio Colao said in November that he hasn’t ruled out an exit from the Basking Ridge, New Jersey-based venture.

Bolstering Revenue

Verizon Communications would have to pay about $125 billion to buy Vodafone’s stake, including about $11 billion that Vodafone would want to compensate for its Luxembourg tax assets, according to New Street Research. Bernstein’s Bienenstock pegs the equity value of Vodafone’s holding at about $116 billion, based on a multiple of 9 times the wireless business’s earnings before interest, taxes, depreciation and amortization.

An infusion of cash from selling its stake in the largest U.S. mobile-phone operation would help Vodafone make new investments to overcome its struggles in European markets, where the debt crisis led to staff cuts and writedowns at its southern European operations. Revenue has fallen for two straight semi-annual periods, the worst stretch since the one ended in September 2005, and analysts project declines for at least the next three periods, according to data compiled by Bloomberg.

Vodafone could use the money to fund acquisitions or expansion into more profitable regions and businesses. Nick Read, Vodafone’s head of Africa, Asia and the Middle East, has said the company is looking for opportunities to get bigger in Africa, where profit is predicted to overtake southern Europe in as few as three years.

Unpredictable Dividend

“I could imagine that Vodafone invests the money a bit better in other regions of the world,” said Peter Braendle, a fund manager at Swisscanto Asset Management who oversees 500 million euros ($666 million) in investments, including Vodafone shares.

Vodafone’s payouts from the partnership have been unpredictable. Verizon Communications, which controls 55 percent of the mobile company, has authority over when and if the wireless business pays dividends.

Because the payments can be withheld if Verizon Wireless is in debt from an acquisition or needs to conserve cash to expand, Vodafone CEO Colao last year called it a “luxury problem.” Before receiving more than $8 billion combined from two dividend payments in the last year, Vodafone hadn’t had a payment since 2005.

Stock Currency

Verizon Communications has more financial wherewithal to resolve the joint venture structure now than in the past. The company’s market value exceeded Vodafone’s on Dec. 18 for the first time since 2002, data compiled by Bloomberg show. As of yesterday, Vodafone had a market capitalization of 80.1 billion pounds ($127 billion), compared with Verizon Communications at $122 billion.

Verizon Communications may struggle to pay for Vodafone’s entire holding with cash and potential debt financing, Bienenstock said. The company reported $3.09 billion in cash and equivalents at the end of last year, compared with $13.4 billion a year earlier.

Still, Verizon Communications’ stock valuation could help provide the needed firepower, said Todd Lowenstein, a fund manager at HighMark Capital Management Inc., which oversees about $17 billion, including Vodafone shares. Verizon Communications had a price-earnings ratio yesterday of 19, near a nine-year high of 19.9 set last year, data compiled by Bloomberg show.

Partial Buyout

“It’s actually good for Verizon now if they were to use their stock as currency,” Lowenstein, who is based in Los Angeles, said in a phone interview. “It’s a higher-than-average multiple right now than what they usually carry.”

One option would be a partial buyout in which Vodafone sells 60 percent of its holding in the venture in exchange for cash and a 19 percent stake in Verizon Communications, as well as full control of an Italian business that the companies own jointly, Bienenstock said. That way, Vodafone could maintain a U.S. holding without the uncertainty of dividend payments from Verizon Wireless, she said.

If Verizon Communications were to instead acquire Vodafone outright, they’d win control over their most valuable asset -- the wireless business -- and pick up international operations for “a steal,” said Jonathan Chaplin, an analyst at New Street Research in New York.

“Verizon should buy all of Vodafone,” Chaplin said in a phone interview. “I think they can, and I think the sooner they do it the better.”

Verizon’s Fate

Verizon Communications could then sell the international assets they don’t want at a premium, potentially to AT&T Inc., he said. Mark Siegel, a spokesman for AT&T, declined to comment on the Dallas-based company’s potential interest in European assets.

Verizon Communications’ fate is tied up with its wireless business. Even after investing in its FiOS fiber-optic network for high-speed Internet service to help offset declining home-phone customers, wireless still accounted for more than half of its revenue and all of its operating income in the fourth quarter. Verizon Communications relies on the mobile business to help fund its own dividend, which cost about $5.2 billion last year.

“Unlike so many companies in this business, Verizon Wireless is a growing company with expanding margins,” Roger Entner, an analyst with Recon Analytics LLC in Dedham, Massachusetts, said in a phone interview. “The profit upside from Verizon Wireless is enough to justify the deal.”

Peaking Value

In the U.S., Verizon Wireless has used its lead in rolling out long-term evolution service to gain market share and increase the size of customers’ phone bills with higher-priced data plans. LTE is a network technology that lets smartphone and tablet users download video and stream music faster. Subscriber growth reached a record in the fourth quarter with the addition of 2.1 million contract customers.

Vodafone could sell its share of the maturing U.S. business at near record levels and use the proceeds to enter growth markets or invest in LTE upgrades, said Kevin Roe, an analyst at Roe Equity Research LLC, based in Dorset, Vermont.

Verizon Wireless’s value may be peaking as the pool of potential new customers shrinks and consolidation leads to stronger competitors, Roe said. Mobile penetration in the country has exceeded 101 percent, according to the CTIA wireless industry association.

‘Right Price’

Competition may be heating up, with Deutsche Telekom AG merging its T-Mobile USA unit with MetroPCS Communications Inc., and Japan’s Softbank Corp. making a $20 billion investment in Sprint Nextel Corp.

A resolution for Vodafone’s stake has been discussed for years without a result. In 2004, former Verizon Communications CEO Ivan Seidenberg suggested that Vodafone and Verizon Communications swap a stake in Vodafone’s Italian business for Vodafone’s holding in the U.S. In 2006, analysts called for Vodafone to take advantage of an option to sell $20 billion of its holding in Verizon Wireless to Verizon Communications. The company let that option expire in 2007.

It came up again in 2009, when Colao, on the job for just over a year, said at a conference in Barcelona that he intended to “solve” Vodafone’s lack of control over Verizon Wireless and that he would consider selling the stake or merging with Verizon Communications.

“At the end of the day, it’s always a question of price,” said Swisscanto’s Braendle, one of the Vodafone shareholders. “Selling at the right price would be wonderful.”

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