How has the telecoms sector weathered previous crises in Europe?
Let’s take a look back at what happened at the turn of the 20th century, when the internet bubble burst, and then at the financial collapse of 2008 – 2009.
The slow recovery from the crash of 2001 – 2002
Telecom operators were very hard hit by this first collapse, not least because the internet bubble burst – as the metaphor so clearly describes – at a time of massively overblown excess: telcos spending insane sums to acquire 3G licences, especially in Europe, spectacular market caps for the sector’s players, particularly alternative operators, which led to some of the biggest merger/acquisition deals in history… all of it rising to such lofty heights that made the fall all the more brutal.
The internet bubble had been created by the coordinated opening up to competition of telecom markets in the European Union. Every incumbent carrier in the EU found itself scrambling to generate earnings in neighbouring markets, to make up for the revenue being lost to new rivals in its original stronghold. And under increased pressure brought on by the advent of ambitious new players (Mannesmann, Hutchison Whampoa…). At the same time, operators were required to take part in competitive processes, often auctions, both at home and abroad to obtain 3G licences. At the time, mobile revenue was enjoying double digit growth, and expected future 3G performances were wildly overblown. In 2002, the overvaluation of the acquisitions and the licences that the major carriers have fought to secure became clear, in a way that was especially searing for operators who were unable to make acquisitions through share swaps and so took on massive debts. For many years after that, financial markets kept a close watch over operators in Europe until they were able to re-establish their debt to EBDITA ratio. They were asked to forgo any ambitious acquisitions, reign in their CapEx and maximise their Free Cash Flow.
Once they had managed to get back on track (through cost-cutting policies and thanks to still strong revenue growth) they needed to protect their solid dividend levels (“to maintain investors’ trust, and so share prices”), even though growth had begun to slow in Europe, as the mobile market was gradually reaching maturity and competition was heating up. So although this crisis meant a break with growth for the sector, the underlying momentum at the time was strong (rise of mobile phone use, early days of fixed broadband) and did not lead to a recession. We “simply” went from double-digit growth to a much slower rate of growth: from a 16% annual increase in Europe in 2000 and 2001 to 7% in 2002, followed by a steady decline, down to +4% in 2006 – 2007.
The macro-economic crisis of 2008 – 2009 would add another layer of difficulty onto the sector, this time tipping it into recession and crippling margins.
The more long-term effects of the 2008 – 2009 crisis
More than anything, this second episode began to chip away at the long held belief that the telecommunications sector could weather any storm, showing clearly that in especially fragile economic times (the 2009 crisis, and especially the later debt crisis in southern Europe) it too would eventually be affected. “The sector has become cyclical, especially since the financial crisis,” Berenberg observed in 2015, after comparing growth trajectories in the telecom sector and in the main GDP constituent sectors. It should nevertheless be said that, alongside the macro-economic climate, the competition dynamic that had fuelled the sector for more than 10 years was further exacerbated by the markets’ contraction.
The crisis in 2008 – 2009 had a dramatic impact on revenue in the countries of southern Europe: Telefónica lost 38% of its Spanish market revenue between 2008 and 2013, or -9% a year – a decline that steadily accelerated, going from -5% in 2008 to -14% in 2013. During those same five years, Telecom Italia’s domestic market revenue plunged by 30%, or by -7% a year. Over in the United States, on the other hand, the less chaotic macro-economic climate, and especially the swift recovery of a much less competitive market, saw Verizon’s revenue shoot up by 24% during that time.
In Europe, plummeting revenue was accompanied by shrinking EBITDA margins, which was often obscured by the EBITDA to revenue ratio: as revenue cratered in Europe, the steady margins reported through EBITDA to revenue ratios in fact masked EBITDA that was tumbling as fast as revenue.
What lessons can we apply to the Covid-19 crisis?
Can we establish some points of comparison to sketch out what we expect the sector’s future to be, in the wake of the radically different crisis brought by Covid-19? Probably more than we might have suspected at first glance, especially in terms of the impact on the sector’s main economic variables.
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