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Wednesday, 6 February 2013

Telecom behemoth KPN must beg for mercy from its shareholders, who must accept… a €4 billion follow-on stock offering

From 2003 until May, 2011, the Dutch telecom company KPN was a dead-cert to the investors: not too exciting, but with always the right bang-for-the-buck. 

Former CEO Ad Scheepbouwer thought that, in order to keep the shareholders happy, a steady flow of high dividends was exactly what the doctor ordered. And happy the shareholders were… Especially the ones with a long-term vision that ended on dividend payment day. Unfortunately, this high-dividend strategy turned out to be a losing bet for KPN eventually. And now the grapes are sour for the shareholders.

The necessary investments for the future, in order to keep its fixed and mobile network up-to-date and state-of-the-art, were neglected by KPN in exchange for short-term ‘shareholder value’. In other words: the company has been used as a cash cow.

Currently the telecom behemoth is hit by a perfect storm of:
  • An outdated infrastructure that is in desperate need of updating and/or replacement, if the company doesn’t want to lose its current position on the business-2-business fixed telephone+internet market and the b2c (consumer) market for 'internet+television+fixed voice-over-IP telephone' in The Netherlands;
  • An earnings-model for smartphones and mobile computing that is still lightyears removed from one that compensates the lost earnings for normal telephone calls and SMS’s;
  • A 4G-auction gone awry that cost the contenders about twelve times as much as initially planned: €3.8 bln instead of €300 mln. KPN was one of the biggest ‘victims’ of this auction, as it paid no less than €1.35 bln for its package of licenses;
  • A war-chest that is depleted by the earlier excess dividend payments and the failed auction;
What makes things worse for KPN is that the money invested in 4G-licenses is dead money for the time being. As long as the new network, hosting the 4G-protocol, is not rolled out, these licenses don’t yield any revenues. This is the reason that KPN at this moment is truly hurrying to deploy the 4G mobile network in The Netherlands. Complicating factor is that deploying such a network costs massive amounts of money too.

In my earlier article on the 4G-auction, I estimated the costs for rolling out the 4G network itself in The Netherlands at €1 bln. Yesterday, however, a KPN official stated on BNR business-news radio that the costs for rolling out the 4G network would be closer to €2 bln, which made my estimate too optimistic.

With these circumstances in mind you can probably imagine that KPN didn’t have the best results for 2012Q4. And indeed, it didn’t, according to an article in Het Financieele Dagblad (

During 2012Q4, Dutch telecom company KPN saw its sales and profit further deteriorate. The company only met its financial goal for 2012 by a whisker, thanks to the sale of a large quantity of radio masts to the tune of €480 mln.

This Tuesday, 5 February 2013, the telephone company published its Q4 data and the annual data on 2012. Last Quarter, sales dropped  by 7.3% and the revenues dropped by 15% y-o-y. The cashflow even dropped by 33%. “We have to deal with a period of reduced underlying profitability in all three core markets”, according to CEO Eelco Blok in a spoken statement during the presentation of the Q4-data.

The economic setbacks forced KPN to lower its targets for the broadband market, where the company desires a market share of 40%, thus postponing the earlier target of 45% for this market.

The company doesn’t mention any concrete targets for 2013, except that the investments should remain below €2.3 bln. In 2014, a period of ‘stabilisation’ will occur, according to KPN and afterwards the lowered dividend of 3 cents per share should grow again.

With €12.7 bln for the whole year 2012, sales were 3.5% lower than the previous year. KPN blamed this partly to the underperforming mobile branch and partly to the sales of parts of its ICT-subsidiary Getronics, which could not add to profit anymore. 

With €693 mln profits were 55% lower than the previous year:
  • In 2011, KPN enjoyed a special tax break, which it did not have in 2012;
  • Restructuring costs for the company grew during 2012;
  • Operational results were under pressure in 2012;

In 2012, the company invested 7.9% more than in 2011.

A positive side to this annual data is that KPN increasingly invested in its network in 2012, which it failed to do sufficiently in the previous years. It seems that Eelco Blok is well on its way to cleanse the company from the negative influence of Ad Scheepbouwer’s senseless policy concerning dividends and investments. This might not make him popular among the shareholders, but it makes sense for the future in my opinion. 

Nevertheless, for 2013 Blok announced an investment ceiling of €2.3 bln, which doesn't seem smart if you really want to update your fixed and mobile infrastructures.

A bad thing is that while the investments in the networks (mobile as well as fixed) in The Netherlands, Belgium and Germany will remain enormous, the revenues will not grow accordingly.

In earlier articles (see the first link in this article), I wrote that fixed and mobile internet, telephony and television will probably become utilities like gas, water and light. You can buy them for a competitive price at the highest quality from a substantial number of nearly-equivalent providers. In the Dutch market, it doesn’t matter whether you buy these services from the telephone companies, the ‘cable(-TV) guys’ or through providers of satellite broadcasting services (TV and telephone): quality is optimal and the products are sold relatively cheap.

As the quality, speed and coverage of fixed and mobile services will come close to optimal (i.e. maximum speed and quality) soon for every provider of these services, this leaves only price as a unique selling point. 

SMS and mobile telephone calls had always been the genuine cashcows from 1994 until 2010 for the telco’s, but these services will not flourish anymore… ever.

The free apps (Whatsapp, Twitter, Skype etc.) that use the (nearly free) broadband possibilities of the smartphones, make this impossible. Even if Skype and Whatsapp want to ask a (token(?)) price for their services, there will be a herd of other app-makers and companies that will offer these services for free again.

As there is only the price to compete with, this could easily lead to a price war between the telco’s, the cable guys and newcomers on this extremely competitive market. In my opinion, this reflects a grim outlook concerning the future profitability of KPN and its peers.

And there was more yesterday in the statement of CEO Eelco Blok: He wanted to make the balance ratios of KPN more healthy and wanted to enable the necessary future investments in the fixed and mobile infrastructure. To achieve this, Blok announced a €4 bln (!), dilutive, follow-on stock offering for KPN for this year, exclusively to holders of current stock: a so-called claim-emission in The Netherlands.

This announcement hit the shareholders like a cluster bomb. After a catastrophic drop in the stock rate of 23% at the beginning of the trading day, KPN ended the day with a still massive 16% loss on its stock. This was the second day in a row that a tech-stock showed disastrous results at the stock exchange, after Imtech one day earlier.

One of the people most hit by the drop in stock rates of KPN, was Carlos Slim of América Móvil, officially the richest man in the world. Since he bought his 28% decisive stake in KPN, the Dutch telecom behemoth already cost him €1.7 bln in losses.

I don’t give advices on, concerning buying or selling certain stock, as this is not my business. Therefore I don’t take any responsibility if you follow up my “non-advices” anyway.

Still, it might have been one of my best non-advices to my readers, when I wrote in my article “Is the fairytale of unlimited profits in the telecom business finally over? Why investors in Dutch telecom behemoth KPN should consider selling their stock to América Móvil!”:

Currently, there are lots of tricks and stunts that telecom providers pull to keep customers under contract, while paying lots of money:
  • exclusive phone contracts (Apple(!)) with high subscription and usage fees;
  • cheap or free smartphones (non-Apple) with high subscription and usage fees;
  • opaque contracts and subscription forms that are impossible to comprehend for normal citizens;
  • contract-limits for data usage;
  • very expensive data usage beyond the contract-limits;
  • pinched-off access to free apps that substitute dearly paid telecom services;
I think this business model will disappear to be replaced with a business model that treats fixed and mobile internet as a utility. The customer buys a phone and pays a very limited fee per month for internet bandwidth. All ´classic´ telephone actions (calling, SMS-ing) will go via IP connections, as there is no need anymore to use the classic digital voice or data connections.

Based on this opinion that I still endorse completely, it would be a smart move of the Dutch shareholders of KPN to take the money of América Móvil and run… KPN has been and still is a very good company, that will present its shareholders with decent profits in the future and will remain a leader in innovation in my opinion. However, I strongly doubt that this company will be the money machine with the excess profits it had been before. The same is true for its main competitors in The Netherlands and abroad: T-Mobile, Vodafone, Téléfonica and others.

The decreasing profits of KPN in 2012 and especially yesterday’s events show in my opinion that I was right on May 29, 2012 and still am right with these assumptions. All shareholders that sold their KPN shares for €8 to Carlos Slim, had a pretty good bargain. The others that kept the KPN stock, including Carlos Slim himself, saw its value shrink to €3.45 as of yesterday.

While ‘slim’ in Dutch means ‘smart’, it doesn seem to apply to Carlos Slim’s takeover of KPN. Maybe, times do still change for him, but I’m afraid they don’t…

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