Heading for divorce court
When Vodacom Group CEO Alan Knott-Craig stood up to present the cellular operator’s annual financial results last Wednesday morning, few could have predicted what was to follow: Knott Craig signalled loudly to the auditorium, packed with journalists and analysts, that he was going to take on 50% shareholder, fixed-line operator Telkom, at its own game. The gloves, he made it clear, were off.
Knott-Craig said that Vodacom wanted to build fibre-optic rings — high-speed infrastructure — encircling SA cities and provide high-speed Internet services to business customers, a direct challenge to his shareholder.
Historically, relations between Telkom and Vodacom have not been good. They sank to a low point a few years ago, when SBC (now AT&T) of the US had effective management control of Telkom. It is well known that Knott Craig and former Telkom chief operating officer Tom Barry, who was seconded to the company from SBC, did not get on.
Now Telkom is considering whether to sell its stake in Vodacom as part of a wider review of its mobile strategy. Of course, it would need the support of government, its largest shareholder, before it could make such a move. But it would find an eager buyer in the UK’s Vodafone, Vodacom’s other shareholder. The deal, if it happened, would likely spark off dramatic changes in SA’s telecommunications industry.
Despite last week’s developments, Knott-Craig says relations between Vodacom and Telkom have thawed considerably since the appointment of Reuben September as Telkom’s acting CEO. September replaced Papi Molotsane, who left the fixed-line operator under a cloud in March.
Knott-Craig says if relations between the two companies hadn’t improved, Telkom would not have sanctioned Vodacom’s move into fixed-line communications. “We are discussing things like adults,” he says. “Before, the answer would just have been no. The relationship has never been better. In the 14 years that Telkom has been our shareholder, the past 3-6 months have been the high point.”
He says it was inevitable that Vodacom would build its own fixed-line network. He adds it would be naive to expect the status quo — specifically, Telkom’s shareholding in Vodacom — to last forever. Consequently, Vodacom does not want to remain reliant on one supplier for the fibre-optic infrastructure that connects its cellular base stations to its core network. He also says Telkom charges it too much for those links.
Knott-Craig says that if Vodacom were to “self provide” its entire network, it would have to invest R6bn-R7bn in infrastructure. But the company will initially be cautious in its approach to spending. Still, Knott Craig expects the first fibre-optic rings to be in place by December.
Deploying a fixed-line network will give Vodacom the opportunity to expand into new segments of the telecom industry. “We missed the window of opportunity in Africa,” Knott-Craig concedes. Until recently, Vodafone barred Vodacom from expanding in Africa north of the equator. Knott-Craig had to sit back and watch SA rival MTN tear through the continent. “Now we are free and encouraged to go there but the window has closed and there is no point in going there just for the sake of it.” He says the prices being asked for African mobile operators are too high. So, instead of wasting the company’s money north of the border, Knott-Craig wants to expand at home. And that, inevitably, means competing more directly with Telkom.
There have been indications for some months now that Vodacom wants to muscle in on Telkom’s turf. Earlier this month, Vodacom signed an exclusive deal with MultiChoice to resell two new pay TV bouquets in direct competition to products that will be launched next year by Telkom Media, Telkom’s new pay-TV subsidiary. The deal precludes Vodacom from reselling Telkom Media products.
Vodacom has also hired away a number of Telkom’s top executives — they include Wally Beelders and Thami Msimango — to start a new business known as Vodacom Converged Solutions (VCS). “Their brief is to set up a formidable Internet service provider, wireless and fixed-line business,” Knott-Craig says.
Vodacom hopes to make an acquisition, rather than building VCS organically, which Knott-Craig says will take too long. “There are probably only three serious targets,” Knott-Craig says. He won’t name them but analysts think the target companies could include Verizon Business, DataPro and Internet Solutions (IS). The latter, which is owned by IT group Dimension Data, is unlikely to be for sale, though some industry wags are suggesting that Vodacom might acquire the entirety of Didata, which has a market value of more than R12bn, and then dispose of Didata’s international assets (possibly to Telkom, if the competition authorities block Telkom’s bid to buy Didata rival Business Connexion).
The suggestion is that Vodacom would then retain IS and, possibly, Didata’s local IT services business. Didata’s share price has run up more than 10%, to a new five-year high, in the wake of Knott Craig’s remarks.
Of course, it’s unlikely that the competition authorities would allow Vodacom to buy Didata, or IS, while Telkom was still a shareholder in the cellular group.
If Telkom did dispose of its Vodacom stake, it could completely alter SA’s information and communications technology sector. Vodafone has first right of refusal on Telkom’s stake and could pay the fixed-line operator as much as R75bn to take the other 50% of the company, analysts say. That would give Telkom a significant war chest to purchase another cellphone company.
The most likely target, most analysts believe, would be struggling third cellular operator Cell C Saudi Oger, Cell C’s biggest shareholder, is said to be keen to sell its stake in the company, but market talk is that it has valued Cell C at about US3bn, which analysts feel is too high.
Telkom could be exactly the medicine that loss-making Cell C needs. The company is struggling to compete with MTN and Vodacom, which together control more than 90% of the market.
Without the money it needs to invest in broadband infrastructure, Cell C has been forced to focus on low-spending customers in the prepaid segment. Telkom could use some of the billions it would get from selling Vodacom to fund the construction of a third-generation (3G) mobile network by Cell C.
Some industry pundits have speculated that Telkom could make a play for MTN instead but that seems unlikely, given that the latter has a market capitalisation of more than R180bn — almost certainly making it too rich for the fixed-line operator. One analyst, though, has suggested that it could be MTN that does the buying. Acquiring Telkom would allow MTN to compete more effectively against a Vodacom that is building a converged communications business.
If Telkom does elect to sell its stake in Vodacom, it will help the company focus its mind on its fixed-line business, which by most measures has stagnated. Fixed line revenue was up only 1,7% in the year to March 2007 and operating profit fell.
The competitive environment is getting tougher and government is applying pressure on Telkom to reduce its tariffs. It announced big cuts in broadband prices last week and hopes these decreases will be offset by volume gains.
It also hopes to offset poor performance at home with growth in Africa, where it has bought pan-African Internet service provider Africa Online and Nigerian operator Multi-Links. CEO September says the company is actively looking for new opportunities.
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