Virgin And O2 Mega-merger Sets The Tone For Telecoms Sector

The UK telecoms landscape is getting a refresh: Virgin Media and O2 have announced a joint venture that will create one of the UK's largest fixed and mobile network services companies. 

Liberty Global and Telefonica, the respective parent companies of Virgin Media and O2, expect the move to generate £11 billion ($13.60 billion) annual revenue, on top of £6.2 billion ($7.67 billion) of synergies from the financial benefits enabled by the merger. The two firms anticipate significant cost savings as they combine regional and national network infrastructures and IT systems, rationalize sites, and reduce administration expenses.

O2 is currently the leading mobile network company in the UK with 34 million users, and has started its 5G rollout in some parts of the country. Virgin, for its part, has made a name for itself as a provider of ultra-fast broadband, and has recently focused on expanding its gigabit-capable network across the nation. 

Combining both companies' capabilities, therefore, could be a savvy move. Telefonica chief executive officer Jose Maria Alvarez-Pallete said: "Combining O2's number one mobile business with Virgin Media's superfast broadband network and entertainment services will be a game-changer in the UK."

The approach is reminiscent of BT's move to purchase EE in 2015, which enabled the broadband company to acquire a mobile arm. After integrating EE's mobile network, as well as its 31 million customers, BT started offering attractive bundled subscriptions of broadband, mobile, pay, TV and landline services. 

Customers can expect a similar converged offering from O2 and Virgin in the future. The companies have pitched that the merger will create "a nationwide integrated communications provider" for over 46 million subscribers, providing more competition in the marketplace and choice for consumers. Liberty Global and Telefonica have also pledged to invest £10 billion ($12.34 billion) in the UK over the next five years.

Virgin Media mobile customers will be moved to O2's network, although both brands are expected to remain in the short-term. But Kester Mann, director at analysis firm CCS Insight, told ZDNet that branding is likely to become an issue. 

"Do they take both brands, or do they only keep one?" he said. "My take is that they should keep at least the O2 brand because it is so well-recognized among consumers. But there are ramifications for Virgin customers if the Virgin brand was to disappear."

With a 37% market share in the fixed broadband market, BT is ahead of Virgin, which holds a 20% share. Mann said that there is a clear focus on competing against BT from Virgin's side; and although the merger won't trouble the waters in the fixed broadband space, it will certainly change the dynamic in the convergence market.

"We've gone from BT being the dominant player, with the biggest fixed line and the biggest mobile networks, to a scenario where there is a new strong business with its own fixed line and mobile infrastructure," said Mann. "So now, we have two big converged players. That reshapes the market somewhat."

For O2, Mann speculated that the appeal of the merger also lies in the operation's synergies. For O2's parent company, which has over €40 billion ($43 billion) of debt, the prospect of cost-cutting might have sealed the deal.

Regardless of the motivations, the joint venture is expected to have ripple effects on the market, as telecommunications companies start looking at ways to follow the convergence model set by BT/EE and now O2/Virgin. Mann said that Vodafone looks like "the biggest loser" of the new merger, as the mobile-only company's weak position in the convergence market has been laid bare by the news.

"Vodafone looks somehow exposed because of that deal now," he said, "and they will have to question whether they should also look to strike a deal somewhere. Vodafone, therefore, but also Three, Sky and TalkTalk will all be assessing their positions, and further deal-making can't be ruled out."

In 2015, Telefonica tried to sell O2 to the owner of Three, CK Hutchison, for £10.3 billion ($12.7 billion), but the deal was blocked by the European Commission, which found that the agreement would affect competitiveness in the mobile sector. There isn't much chance, however, that regulators will come in the way of a joint venture that spans both mobile and fixed networks. Like BT and EE, it is largely expected that O2 and Virgin's merger will go ahead without a hurdle.

Fixed and mobile network services convergence, therefore, seems the way forward for telecommunication businesses, and more cross-sector deals are likely to emerge in the near future. Subject to regulatory approvals and other customary conditions, the joint venture between O2 and Virgin Media is expected to close around the middle of 2021.