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Vodafone Group Plc. (VOD - Analyst Report) is reportedly contemplating a buyout of Germany’s largest cable network company, Kabel Deutschland Holding AG. Although there is no an official acknowledgment of this deal, it certainly brings Vodafone in the league of M&As taking place in the global telecom space.

Vodafone Group is the world’s largest revenue generating wireless communications operator and the second largest carrier after China Mobile Limited , based on subscription. The prospective multi-billion dollar acquisition would not only foster its presence in the European telecommunication market, but also consolidate its competitive position against equal potential players like Liberty Global Inc. (LBTYA - Analyst Report) and Deutsche Telekom AG (DTEGY) in Europe’s largest telecommunication market.

Kabel Deutschland, with a net worth of €8 billion , covers 8 million German households. It offers wireline services like HD and analog TV, Pay TV and broadband Internet with speed up to 100 Mbps and fixed-line voice services through cable as well as wireless services through industry collaborations.

A possible takeover of this company would provide Vodafone an access to the existing setup of Kabel Deutschland and solidify its wireline business in the key European market. According to business reports, in the fiscal year ending Mar 31, 2012, Kabel Deutschland reported revenues of €1,700 million and an adjusted EBITDA of €795 million, which hints the financial synergies Vodafone can draw from the deal.

Competitive Landscape in German Wireline Biz

Similar to the other international markets, the German telecom market is governed by highly competitive market forces. Currently, there are three major companies — Kabel Deutschland, Deutsche Telekom and Liberty Global Inc. — which are dominating the fixed line segment.

These mega companies have been battling each other to penetrate deeper into the domestic market through mergers and acquisitions. Liberty Global Inc. remains ahead in this race with its purchase of Germany’s two leading cable providers — Unitymedia and Kabel BW — in 2010 and 2011, respectively. In 2012, Kabel Deutschland proposed to buy regional service provider, Tele Columbus. The buyout was however rejected by the German regulators citing competitive issues.

According to Reuters, while Deutsche Telekom enjoys a hefty position in the broadband market with 40% share, Liberty Global and Kabel Deutschland together enjoy 13% market share and continue to win customers through competitive offerings.

Vodafone’s Interest

When the whole world is going wireless frenzy and seeking LTE expansion plans, it might look like an out of the league strategy for a wireless company to seek expansions in the fixed line business involving significant investments. But, for Vodafone this acquisition marks an important move besides improving its market position.

It is evident that the prospective acquisition would oust major players in the German wireline industry. Vodafone would then be an undisputed leader in wireline business with a big loaf of cable TV and broadband business in Deutsche land. But, beyond this, Vodafone foresees significant cost synergies (approximately €300-€500 million ) by not having to pay rentals for copper lines to Deutsche Telekom. Vodafone needs these copper lines to provide its 3.3 million customers in Germany with DSL services.  

Further, Vodafone efforts to bring its customers within one network infrastructure (DSL to LTE) through the deal would result in additional saving for the company by curtailing spending on network build outs. According to Vodafone’s latest interim financial results, the company has already covered about 53% of its subscription under LTE coverage, out of which nearly 283,000 customers are through fixed line substitution.

However, we believe implementation of network conversion remains a long term process and involves structural changes. Hence, in the near future we expect the Kabel Deutschland deal, which comes with an existing set of network backhauls, to provide a good platform for offloading data traffic and resolving spectrum issues for Vodafone.

Prospects of the Deal

We believe there's many a slip twixt the cup and the lip before the deal gets realized. The biggest challenge for the company will be to win antitrust approval. Historically, this very issue has stained the successful completion of many deals such as AT&T Inc. (T - Analyst Report) and T mobile acquisition. Given the size of Vodafone’s prospective deal and its impact on the competitive position of other players, there lies fair chance of regulatory interventions.

Vodafone currently carries a Zacks Rank #3 (Hold).

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