Carphone Warehouse: A Challenging Year Ahead
Carphone announced yesterday that they had completed the purchase of AOL UK just in time for the year end.
The short term focus of the market will be on the AOL numbers which are due to be released on 12th Jan with the Carphone Christmas Trading Update. At the announcement of the acquisition, Carphone thought there would be 1.5m broadband and 0.6m dial-up customers which would be acquired. I don’t expect Carphone to release financials for the business and the only we have is from 2005 where the business had revenue’s of £442m and Operating Profit of £14m.
Carphone at the time of acquisition said they planned to continue the AOL brand as the stand-alone access brand. I’ll be quite interested to see how this strategy plays out as I would imagine one of big upsides of the deal is to convert dial-up to broadband customers and broadband customers to voice+data unbundled customers. I would imagine quite a few other broadband networks have plans for churning AOL customers onto their networks. It will be quite hard to see how successful Carphone are in retaining the AOL base, unless they start to include churn figures in their reporting KPIs.
News that Carphone plan to start traffic shaping on the AOL network will immediately not endear them to the tech-savvy element of the AOL base.
In the trading update, Shareholders will be looking for Carphone to deliver the customer numbers and make positive noises about synergies and integration plans.
Carphone also has to solve the problem of its backlog. Given that Carphone admits it loses money on non-LLUed customers, a key metric to follow is how many customers are waiting to be converted to a LLU exchange. This is another potential point of pain for the customer base as it is well documented that the conversion to full unbundled at each exchange is riddled with problems. I am hearing that mass migrations are planned for Feburary – watch this space.
Carphone also has to manage the decline of its CPS base. At Sep-06, Carphone had 819k CPS + WLR & 1,322k CPS only customers. These have been declining by approx. 250k a quarter since the acquisition of one.tel and tele2 bases. Although, Carphone doesn’t split out the revenue by services, it will undoubtedly be losing significant revenues from this base decline.
Most importantly, Carphone has to haemorrhage the losses in the division. The true extent of the losses is hard to determine given the details in the CPW financial reporting. It appears that whole of the Fixed division in the first six months of the year made £12m of contribution on turnover of £523m and that is before support costs or depreciation is taken into account. Personally, I think it is time for Carphone to start presenting its Telecom business results in a standard telecom manner.
The other difficulty that Carphone is going to face is that the other broadband providers look to moving onto a different plane with the offering of video services. Carphone will have to invest substantially in product development to keep up with the broadband Joneses.
Mobile Today reported on Dec 12th that sales were up 5% in the UK on the previous year which actually sounds exceptional performance especially given that overall industry sales were down by 21%. However, there is no doubt that in the UK Carphone made a big push into the low end of the prepaid market which has much lower margins than on postpay sales. It will be extremely interesting to see the mix of Carphone connections and the associated gross profit margins.
I am also not sure how much Carphone overheads have increased during the year – there is the ongoing store opening programme and general uk cost inflation to take into consideration. Unfortunately, we are not going to see the impact on the bottom line until full year results are released in June. Carphone distribution EBIT margins are already wafer thin at 4.7%.
Also people forget the scale of Carphone operations in mainland Europe: they only have 696 stores out of 1921 in the UK and made 2,319k connections out of a total of 4,340 in the UK. It is also noticeable that the second largest market is Spain which is actually the fastest growing market in Europe. But, overall European markets are stagnating.
In the short term, growth in Europe can only be achieved via market share gains or an increase in dealer commissions. I see the second extremely unlikely, whereas the former is a distinct possibility. A key feature in the UK market was the disappearance of The Link from the High Streets, Carphones big push into Online and clawing back market share in the prepaid market from non-specialists.
In the wider market, Carphone has place a toe in the US market with its joint venture with Best Buy. This could be an extremely important growth market in the long term.
In short, it is going to be an extremely challenging year for Carphone. Personally, I think there is a high probability that they will succeed on the distribution side, but fail on the telecom services side. With a market capitalisation of £2.84bn, significant debt and insignificant net profits there is a big risk that if anything goes slightly wrong the shares could be radically revised downwards.
The trading statement on the 12th Jan will be analysed with a fine tooth comb and will provide clues as to how growth is going, however will not provide more important details on underlying profitability or cashflows. The more worrying date for Carphone shareholders is the release of Vodafone KPIs at the end of the month. If Vodafone has been successful is growing its UK contract base without the help of Carphone, other operators may consider Carphone superfluous to requirements.
The short term focus of the market will be on the AOL numbers which are due to be released on 12th Jan with the Carphone Christmas Trading Update. At the announcement of the acquisition, Carphone thought there would be 1.5m broadband and 0.6m dial-up customers which would be acquired. I don’t expect Carphone to release financials for the business and the only we have is from 2005 where the business had revenue’s of £442m and Operating Profit of £14m.
2007 Challenge #1 – Integrate AOL Business
The most important result of this integration effort is to improve the overall broadband scale and reliability. Carphone will have acquired a reasonable amount of unbundled exchanges (with different technology), different back office applications and a reasonable amount of engineers. Carphone has to rapidly integrate these assets with its’ own business without upsetting too many AOL customers.Carphone at the time of acquisition said they planned to continue the AOL brand as the stand-alone access brand. I’ll be quite interested to see how this strategy plays out as I would imagine one of big upsides of the deal is to convert dial-up to broadband customers and broadband customers to voice+data unbundled customers. I would imagine quite a few other broadband networks have plans for churning AOL customers onto their networks. It will be quite hard to see how successful Carphone are in retaining the AOL base, unless they start to include churn figures in their reporting KPIs.
News that Carphone plan to start traffic shaping on the AOL network will immediately not endear them to the tech-savvy element of the AOL base.
In the trading update, Shareholders will be looking for Carphone to deliver the customer numbers and make positive noises about synergies and integration plans.
2007 Challenge #2 – Turnaround TalkTalk business
This may sound ridiculous given the customer acquisition numbers that TalkTalk broadband have had since launching almost-free broadband, but in survey after survey TalkTalk is bottom of customer service heap. Somehow, Carphone has to either convince its userbase to expect a lower level of service for a rock bottom price or improve customer service without affecting margins. It risks starting to suffer from large churn especially in 2008 as the 18-month contracts begin to expire. Carphone has basically 12 months to solve this problem. Charles Dunstone always stresses the importance of queue time in customer care as a key metric which is undoubtedly improving – I’m not so sure myself. However, I’m hearing good news on the jungle grape vine which should improve performance dramatically to the end-user, such as the recent upgrading of 100MB backhaul from each unbundled exchange to 1000MB and the plans to use dark fibre in the London area. Having sufficient capacity is an absolute minimum for the provision of a half-decent broadband service.Carphone also has to solve the problem of its backlog. Given that Carphone admits it loses money on non-LLUed customers, a key metric to follow is how many customers are waiting to be converted to a LLU exchange. This is another potential point of pain for the customer base as it is well documented that the conversion to full unbundled at each exchange is riddled with problems. I am hearing that mass migrations are planned for Feburary – watch this space.
Carphone also has to manage the decline of its CPS base. At Sep-06, Carphone had 819k CPS + WLR & 1,322k CPS only customers. These have been declining by approx. 250k a quarter since the acquisition of one.tel and tele2 bases. Although, Carphone doesn’t split out the revenue by services, it will undoubtedly be losing significant revenues from this base decline.
Most importantly, Carphone has to haemorrhage the losses in the division. The true extent of the losses is hard to determine given the details in the CPW financial reporting. It appears that whole of the Fixed division in the first six months of the year made £12m of contribution on turnover of £523m and that is before support costs or depreciation is taken into account. Personally, I think it is time for Carphone to start presenting its Telecom business results in a standard telecom manner.
The other difficulty that Carphone is going to face is that the other broadband providers look to moving onto a different plane with the offering of video services. Carphone will have to invest substantially in product development to keep up with the broadband Joneses.
2007 Challenge #3 – Grow Distribution
The only blot for Carphone Shareholders in 2006 was the announcement that it had lost the UK Vodafone postpaid contract. The drop in shareprice on this announcement of 50p showed the sensitivity to bad news in the retail operations. The problem for Carphone is that all its biggest paymasters (the networks) across all of Europe are looking at reducing churn and reducing commissions to dealers. This is going to make growth difficult.Mobile Today reported on Dec 12th that sales were up 5% in the UK on the previous year which actually sounds exceptional performance especially given that overall industry sales were down by 21%. However, there is no doubt that in the UK Carphone made a big push into the low end of the prepaid market which has much lower margins than on postpay sales. It will be extremely interesting to see the mix of Carphone connections and the associated gross profit margins.
I am also not sure how much Carphone overheads have increased during the year – there is the ongoing store opening programme and general uk cost inflation to take into consideration. Unfortunately, we are not going to see the impact on the bottom line until full year results are released in June. Carphone distribution EBIT margins are already wafer thin at 4.7%.
Also people forget the scale of Carphone operations in mainland Europe: they only have 696 stores out of 1921 in the UK and made 2,319k connections out of a total of 4,340 in the UK. It is also noticeable that the second largest market is Spain which is actually the fastest growing market in Europe. But, overall European markets are stagnating.
In the short term, growth in Europe can only be achieved via market share gains or an increase in dealer commissions. I see the second extremely unlikely, whereas the former is a distinct possibility. A key feature in the UK market was the disappearance of The Link from the High Streets, Carphones big push into Online and clawing back market share in the prepaid market from non-specialists.
In the wider market, Carphone has place a toe in the US market with its joint venture with Best Buy. This could be an extremely important growth market in the long term.
2007 Challenge #4 – Manage the Balance Sheet
As Carphone has moved into the M&A game and is trying to build an infrastructure business, the borrowings have shot up. Net Debt was £411m at Sept before the £370m acquisition of AOL. It would not surprise me in the slightest if any improvement in underlying business performance is completely consumed by increased financing charges.In short, it is going to be an extremely challenging year for Carphone. Personally, I think there is a high probability that they will succeed on the distribution side, but fail on the telecom services side. With a market capitalisation of £2.84bn, significant debt and insignificant net profits there is a big risk that if anything goes slightly wrong the shares could be radically revised downwards.
The trading statement on the 12th Jan will be analysed with a fine tooth comb and will provide clues as to how growth is going, however will not provide more important details on underlying profitability or cashflows. The more worrying date for Carphone shareholders is the release of Vodafone KPIs at the end of the month. If Vodafone has been successful is growing its UK contract base without the help of Carphone, other operators may consider Carphone superfluous to requirements.
<< Home