Telefonica Tightens Grip on Telecom Italia With Stake Boost

Telefonica SA agreed to boost its stake in Telecom Italia SpA in an 861 million-euro ($1.2 billion) cash and stock transaction, expanding its influence over the indebted Italian phone company and paving the way for potential asset sales.

The Spanish carrier will pay an initial 324 million euros to increase its holding in Telco SpA, the investment vehicle that owns 22.4 percent of Telecom Italia, to 66 percent from 46 percent. Partners Assicurazioni Generali SpA, Intesa Sanpaolo SpA and Mediobanca SpA will gradually reduce their stakes. The price values Telecom Italia shares at 1.09 euros each. The stock rose as much as 4.9 percent to 61.9 cents in Milan today.

The agreement, first reported by Bloomberg News yesterday, marks the unraveling of a six-year shareholder pact as Telecom Italia looks for capital to pare more than $38 billion in net debt. Moody’s Investors Service in August gave the carrier three months to strengthen its balance sheet or else it could be stripped of its investment-grade rating, putting pressure Chief Executive Officer Franco Bernabe to consider asset sales.

“It’s the first time in Italy a former state-owned enterprise with strategic assets is sold to a foreign company,” Andrea Giuricin, a media and telecommunications analyst at Milan’s Bicocca University, said in a phone interview. “Telecom Italia was just too weak to continue as a standalone business.”

Second Stage

Falling valuations of the region’s phone companies have attracted billionaire investors including Mexico’s Carlos Slim and Hong Kong’s Li Ka-shing to increase investments. AT&T Inc. scoured Europe for takeovers this year, and Telefonica and Vodafone Group Plc have in recent months made wireless and cable acquisitions in Germany to bolster their phone offerings.

In a second step of the transaction, Telefonica will pay an additional 117 million euros to increase its stake in Telco to as much as 70 percent. Generali, Intesa and Mediobanca’s combined holdings will fall to 30 percent. Once Telefonica’s voting rights in Telco exceed 50 percent, it can appoint half of Telco’s 10-person board, with the remainder to be decided by the Italian partners.

Telefonica also agreed to purchase part of a 1.75 billion euro-bond issued by Telco last year. Increasing its share to 70 percent from 46 percent will cost about 420 million euros and Telefonica will finance the acquisition with its own stock.

Telecom Italia traded 2.8 percent higher at 60.7 cents at 5:09 p.m. in Milan. Telefonica was little changed at 11.27 euros on the Madrid exchange.

Political Compromise

Telefonica and the financial investors agreed in 2007 to pay 4.1 billion euros for an 18 percent stake in Italy’s biggest phone company. At the time it was a compromise by the government to keep the carrier Italian and to fend off a takeover bid by AT&T and Slim’s America Movil SAB.

Telco’s owners have written down their investments at least five times -- Mediobanca devalued its stake last week to 53 cents a share and Generali announced its writedown today -- as the stock slumped more than 70 percent over six years as Europe’s debt crisis sapped consumer spending and profit from telecommunications services.

As part of today’s deal, Telco’s investors agreed to extend the period in which they could revoke the accord as they wait for Telecom Italia CEO Bernabe to present a business plan at a board meeting scheduled for Oct. 3.

Towers Sale

Among proposals to raise cash and increase efficiency are a sale of 12,000 wireless towers and a reorganization of Milan-based Telecom Italia’s domestic units by creating separate companies for its consumer and business services, people familiar with the matter have said. Telecom Italia is also working on a spinoff of its fixed-line network as an avenue to raise capital and bargain for lighter regulations.

Telco’s owners will have a chance to end the shareholder pact from June 15 to June 30 next year, followed by another window from Feb. 1 to Feb. 15, 2015, today’s statement showed.

Telefonica was seeking to extend the first exit period, which was due to expire this week, to gain time to push for a sale of Telecom Italia’s Brazilian unit Tim Participacoes SA, which has a market value of more than $11 billion, people familiar with the matter have said.

During the negotiations, Telefonica has expressed it would back a capital increase only if the plan comes along with measures to shore up Telecom Italia’s finances such as a disposal of Tim Brazil in the medium term, the people said.

Brazil Breakup?

Telefonica Brasil, which sells services under the Vivo brand, is the country’s biggest wireless operator. By increasing its indirect holding in Telecom Italia incrementally, Telefonica aims to circumvent any regulatory hurdles in the event of a sale or a breakup of Tim Brazil, said one of the people.

Tim gained 5.8 percent to 10.70 reais in Sao Paulo. It had risen as much as 7.2 percent, the biggest intraday jump since August 2011.

For Telefonica CEO Cesar Alierta -- who was in Milan last week to help broker an agreement -- boosting investments in Italy is a preferred option because a sale would have meant another writedown similar to the ones Mediobanca and Generali have just made.

Having sold assets in the past year from Ireland to Central America, Alierta has averted a rating downgrade and gained the financial flexibility that allowed him to expand in Germany by agreeing to take over Royal KPN NV’s E-Plus business in an 8.55 billion-euro sweetened transaction last month.

Winning Support

Telefonica eventually aims to acquire the remaining Telecom Italia shares held by its Telco partners, said a person familiar with the matter. Today’s agreement gave Telefonica the option to buy out remaining Telco stakeholders in cash starting next year.

“Telefonica has managed to win support from Telco and gain time to try to improve Telecom Italia’s delicate situation,” said Andres Bolumburu, an analyst at Banco de Sabadell in Madrid.

Telecom Italia reported a 2.2 billion-euro goodwill writedown for the first half, bringing the amount of impairment losses by the carrier to 14 billion euros since 2011 as its stock heads for the ninth consecutive annual decline.

Telecom Italia sold 1 billion euros of seven-year bonds last week, data compiled by Bloomberg showed. Still, without any major asset sale, the carrier will need a capital increase of about 4 billion euros, another person familiar with the matter has said, asking not to be identified because the discussions are confidential.

Italian Takeovers

Telecom Italia’s Baa3 rating, the lowest investment grade, remains under review for a possible downgrade, Moody’s analyst Carlos Winzer said in a statement to Bloomberg News.

Foreign investors have taken control of some of Italy’s other biggest companies in recent years.

Bulgari SpA, the jeweller, was bought by France’s LVMH Moet Hennessy Louis Vuitton SA for 12.3 billion euros in 2011. Milk producer Parmalat SpA and power company Edison SpA also went to French buyers. Cashmere clothier Loro Piana SpA agreed in July to be acquired by LVMH for 2 billion euros.

Air France-KLM Group is weighing an increase in its 25 percent stake in Alitalia SpA, Italy’s flagship airline.

Politics may be on Telefonica’s side. Prime Minister Enrico Letta was from 1993 until April last year secretary-general of Arel, a research institute of economics and politics that coordinates Italy-Spain forum of dialog with Cidob, a Barcelona-based foundation. Letta was undersecretary for former Prime Minister Romano Prodi when the government blocked AT&T and America Movil’s bid for Telecom Italia in 2007.

Before it's here, it's on the Bloomberg Terminal.