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TEF AT A GLANCE

P/E ► 25.9 AVG EV/EBITDA ► 13.7 HIGH ROA ► 6.3% AVG ROE ► 19.6% AVG Debt to Equity ► 5.35 VERY HIGH Current Ratio ► 0.760 AVG Interest Coverage Ratio ► 2.58 AVG

 

 

 

 

 

 

Telefonica, based in Madrid, Spain, is the third largest mobile telephone company in the world by customer accesses, with 182 million^[1] subscriber lines to its services, and has coverage in Europe and thirteen Latin American countries. In addition, the company offers broadband internet access and television service. ^[2]

Since 2007, Telefonica has faced increasing obstacles to growth in Spain, long considered its dominant market. Spain has a wireless penetration rate of 111%, which is the number of wireless subscriptions divided by population.^[3] In addition, Telefonica has faced increasing competition as a result of France Telecom S.A. (FTE) acquiring Deutsche Telekom AG (DT)'s internet business, as well as the largest Spanish cable TV operator pushing its own internet and phone services. ^[1].

To drive growth outside Spain, initiatives by the company in the past five years have been focused on growth through acquisition. In June 2005, the company acquired a majority stake in Cesky Telecom, one of the leading operators of fixed and mobile telephony in the Czech Republic. In November 2005, Telefonica acquired O2 PLC, a leading provider of mobile communications services in Europe. The company has rights to provide coverage for the IPhone in 16 countries, which have contributed to sales growth and offset decreases in Average Revenue Per User (ARPU), since iPhone contracts typically have 30% higher ARPU than other phones. ^[3]

Business Overview

Telefonica 2007 customer base ^[6]

Telefonica places a large emphasis on innovation and Research and Development. It spent 4.4 billion euros in 2007 on technological innovation, including 594 million euros in R&D, almost double that of one of its largest competitors, Vodafone, and launched over 600 products and services worldwide. ^[2] In 2007, Telefonica launched Open Movilforum, an open source platform that allows developers to access services on Telefonica's network and incorporate them into their applications, which management hopes will lower churn by keeping customers from switching to other carriers.^[7] The company has invested in Amobee, a mobile advertising solutions business; GestureTek, a user recognition and interface innovator; and Kyte, a multimedia social networking business. ^[8]

Telefonica 2007 customer base ^[9]

Services

• Traditional fixed telecommunication services: domestic and international long distance telephone^[10]
• Internet and broadband multimedia services: Internet Service Provider (ISP) and cable and satellite television service.^[10]
• Data and business-solutions services: Virtual private network (VPN), fiber optics, web hosting, security services.^[10]
• Wholesale services for other telecommunication companies: Leasing lines for other telecommunications companies.^[10]
• Mobile services: Mobile telephone, data, and Internet^[10]

Business Segments

Telefonica has a regional, integrated management model organized around three geographic areas, with each area in charge of the business with its borders.

• Telefonica Espana (37% of revenue^[19], 52.8% of operating income^[4]): From its inception in Spain in 1924 to today, Telefonica receives the largest share of its business in Spain. This segment also includes mobile services in Morocco.
• Telefonica Latinoamerica (36% of revenue^[19], 26.6% of operating income ^[4]): Under the names Telefonica and Movistar, this unit provides telecommunications services to thirteen countries in Central and South America: Argentina, Brazil, Chile, Colombia, Ecuador, El Salvador, Guatemala, Mexico, Nicaragua, Panama, Peru, Uruguay and Venezuela. The unit also has satellite operations in Puerto Rico and the US. ^[20]
• Telefonica O2 Europe (26% of revenue^[19], 11.9% of operating income ^[4]): This segment operates in the UK, Germany, Ireland, the Czech Republic, and Slovakia. This unit has a foothold in China and Italy through its partnerships with China Netcom (906-HK) and Telecom Italia S.P.A. (TI).
• Other (1% of revenue^[19], 8.7% of operating income ^[4]): Attento provides customer care services to all of Telefonica's customers. t-gestiona provides administrative and administrative support services to the regional business units. Telefonica I+D is the company's research and development subsidiary. ^[20]

2007 Telefonica revenue in selected countries and % GDP ^[21]

Trends and Forces

Increasing competition in Spain

Telefonica historically has been the leading telecommunications company in Spain by customer accesses.^[1] However, the wireless penetration rate, which is the total number of wireless subscribers in a country divided by its population, has reached 111% in this country. Such a high penetration rate means the wireless growth outlook is bleak. ^[3] Competition in Spain has increased as a result of France Telecom S.A. (FTE) acquiring Deutsche Telekom AG (DT)'s internet business and the largest cable TV operator pushing its own internet and phone services. ^[1] Overall, Spain's Gross Domestic Product is dropping, in part due to the global economic downturn, and the country has cut roaming tariffs, allowing customers of Telefonica's competitors to more easily use their phones in Spain. Telefonica Espana's 2007 growth rate was one-third that of Telefonica Europe. ^[1]

Latin America is the main area of growth

By region, Latin America is the firm's primary growth driver, generating revenues almost matching that from Spain. Privatization of telecommunication in most Latin American countries had lead to rapid growth in mobile and long distance telephone services. ^[22] Throughout Central and South America, Telefonica is using its commercial strength in the mobile business to grow its fixed-line telephone and broadband business. ^[1] Telefonica is able to capitalize on countries with poor infrastructure by jumping into new technologies such as 3G data networks, VoIP, and WiMAX, saving the cost of infrastructure upgrades.^[22] In 2007, more than half of the company's sales growth came from Latin American customers, which offset slowing fixed-line services in Spain. ^{[23] [24]}

iPhone distribution rights in 16 countries

Telefonica started selling iPhones in November 2007 as the exclusive dealer and service provider in the UK.^[25] Like AT&T in the United States, the exclusive contract has the potential to drive expansion of Telefonica's wireless customer base. In 2008, new iPhone subscriptions, which command 30% higher average revenue per user (ARPU),^[3] offset falling ARPU with other contract users. ^[1] The company announced in June 2008 that it will distribute the iPhone in 12 Latin American countries and the Czech Republic, in addition to the UK, Ireland, and Spain. ^[26] However, Telefonica only has the exclusive right to provide service for the iPhone in the UK, Ireland, and Spain. ^{[27] [28]}

Adverse Regulatory Environment in Europe

As a multinational telecommunications company, Telefonica is subject to strict regulation in many of the countries in which it operates. ^[29] Regulatory policies in many countries favor increased competition in the fixed line, broadband, and mobile service industries. Because Telefonica holds a high market share in many of the countries in which it operates, it is negatively affected by rules designed to foster competition and antitrust action.

In the European Union, increased regulatory pressure has resulted in new initiatives in international data roaming tariffs and mobile call termination rates, which would negatively affect Telefonica's business. ^[29] In addition, the European Commission in 2007 fined Telefonica €151 million for five years of unfair pricing in the Spanish broadband market, finding that Telefonica was charging disproportionate wholesale prices to its competitors compared to its customers for use of its telecommunications network.^[30] The Commission found that, on average, Spanish customers pay 20% more than the EU-15 average for broadband access, and the Spanish broadband penetration rate is 20% below the EU-15 average as a consequence of Telefonica's anticompetitive behavior.^[30]

Competition

Telefonica is the third largest wireless phone operator in the world behind Vodafone AirTouch Public Limited Company (VOD) and China Mobile (Hong Kong) (CHL).^[31] It has a solid hold on its customers in Spain, with a churn rate of 1.8%, and extremely low churn rates elsewhere around the world. ^[32][33] Churn rate indicates the percentage of customers switching from Telefonica to another wireless carrier in a given year. In Latin America, Telefonica competes predominantly with America Movil, S.A.B. de C.V. (AMX) in the mobile phone market.

*Currency conversions based on FRB reported exchange rates for Dec 2007 ^{[41] [42]}

**Telefonica churn rate is the range reported over all countries

References

1. ↑ ^{1.0 1.1 1.2 1.3 1.4 1.5 1.6} Morningstar analyst report, "TEF," 20 Nov 2008]
2. ↑ ^{2.0 2.1 2.2} TEF 2007 Annual Report, page 3
3. ↑ ^{3.0 3.1 3.2 3.3} TEF 2007 Annual Report, "Wireless telephony," page 17
4. ↑ ^{4.0 4.1 4.2 4.3 4.4 4.5} TEF 2007 Annual Report, “Financial Data,” page 78
5. ↑ ^{5.0 5.1} Google Finance “TEF”
6. ↑ TEF Annual Reports 2007, 2005, 2004, 2003, "Selected Data"
7. ↑ TEF 2007 Annual Report, “Innovation,” page 29
8. ↑ Current Analysis, "Telefonica Invests in Innovation"
9. ↑ ^{9.0 9.1} TEF 2007 Annual Report, “Letter from the Chairman,” page 5
10. ↑ ^{10.0 10.1 10.2 10.3 10.4} TEF 2007 20-F, Item 4 "Information on the Company," page 15
11. ↑ TEF 2003 Annual Report, "Selected Data", page 14
12. ↑ TEF 2004 Annual Report, "Selected Data"
13. ↑ TEF 2005 Annual Report, "Selected Data"
14. ↑ TEF Annual Report 2006, page 133
15. ↑ ^{15.0 15.1 15.2} TEF Annual Report 2006, page 135
16. ↑ ^{16.0 16.1} TEF 2007 Annual Report, "Results," page 71
17. ↑
18. ↑
19. ↑ ^{19.0 19.1 19.2 19.3} TEF 2007 Annual Report, page 4
20. ↑ ^{20.0 20.1} TEF 2007 Annual Report, page 8
21. ↑ TEF 2007 Annual Report, “Contribution to progress,” page 6
22. ↑ ^{22.0 22.1} Reuters Latin America - Telecom Market Regulatory Overview & Infrastructure
23. ↑ Spain's Telefonica sees Latin America as growth lever
24. ↑ Bloomberg Telefonica Profit Advances on Latin American Growth (Update3)
25. ↑ TEF 2007 Annual Report, “Products and Services,” page 32
26. ↑ DMW Daily, "Telefonica to Sell iPhone in 16 Countries; Much of Latin America"
27. ↑ Wireless Week, "Telefonica to Distribute iPhone to 16 Countries"
28. ↑ Reuters, "UPDATE 1-Telefonica to sell iPhone in Spain this year"
29. ↑ ^{29.0 29.1} TEF 2007 20-F, Item 3 "Key Information," page 6
30. ↑ ^{30.0 30.1} European Commission, "Antitrust: Commission fines Telefónica over €151 million for over five years of unfair prices in the Spanish broadband market"
31. ↑ Morningstar analyst report, TEF, 20 August 2008
32. ↑ ^{32.0 32.1} TEF 2007 Annual Report, page 99
33. ↑ ^{33.0 33.1} TEF 2007 Annual Report, page 85
34. ↑ Vodafone 2008 Annual Report
35. ↑ 2008 Annual Report, "2008 Financial Year Compared to the 2007 Financial Year"
36. ↑ Vodafone 2008 Annual Report, page 98
37. ↑ China Mobile Limited, "Key Operational Statistics"
38. ↑ TEF 2007 Annual Report, page 86
39. ↑ AMX 2007 Annual Report, "Relevant Financial Data," page 4
40. ↑ ^{40.0 40.1} AMX 2007 Annual Report, page 22
41. ↑ Federal Reserve Board
42. ↑ Federal Reserve Board