Verizon's Effect on the Canadian Telecom Industry

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For decades, the telecom giants of Canada have had it easy. Together they control the prices, charging whatever they please. Startups that grow too large are quickly bought, like in the case of Fido Solutions, a growing competitor that was bought by Rogers Communications (NYSE: RCI) in 2004. Among the startup companies, Wind Mobile and Mobilicity have been the subject of large news for the industry. Verizon Communications (NYSE: VZ) is said to be preparing a bid on Wind Mobile, a move that brings joy to every Canadian that is sick of paying more than nearly everyone else. For the Canadian "Big 3" on the other hand, they should be very concerned. In this article, we will look at how much they will suffer if Verizon is successful in buying Wind Mobile. 

An uneven playing field

In an attempt to increase competition in the wireless market, Canadian telecommunications rules have been set to prevent the established companies from swallowing up the small guys. The bidding for spots in the telecom spectrum took place in 2008, allowing for more companies to join in without the inevitable assimilation story. The startups that were formed then are protected by law against the Big 3, Rogers, Telus (NYSE: TU), and Bell (NYSE: BCE), but are potentially a valuable asset to other entering competition. The Big 3 are now scrambling to make the Canadian government change their foreign ownership laws, thus preventing a company Bell says is four times larger than any other company in the industry from entering.

Dial 3 for "Rip-off"

At this moment  in time, the Big 3 own over 90% of the total market share in Canada, and they desperately want to keep it that way. The OECD (Organization for Economic Co-operation and Development) ranks Canadian carrier revenue per customer as the 4th highest for all members of the organization. It is clear that with more competition, the prices they charge will be forced to drop. In the past year, Bell had a $3.25 EPS, but the company's earnings fell in Q1 21.0% from Q4 2012. Telus had a $1.96 EPS, but unlike Bell, its earnings grew 21.8% in the first quarter. Rogers has had $3.40 EPS, and its earnings grew 46.1% in Q2 2013 after a decrease in earnings for Q1. All three of these companies have had similar profit margins for the first half of this year. In Q1, Telus had a 13.14% margin, Bell had 12.18%, and Rogers had a 11.66% margin. When any of the Big 3 can no longer charge high prices for their service, it becomes clear they can no longer post these earnings. 

Carrier plans have been outrageously expensive in Canada for as long as one can remember. Verizon has shown that it can provide the same services at cheaper prices in the U.S., and there is nothing stopping them from bringing the same prices north. Its 98 million customer base in the U.S. dwarfs the 27 million telecom customers in Canada as a whole, and its $79.5 billion wireless communications revenue in 2012 is multiple times bigger than the Big 3 combined.

The CEOs of all three companies have spoken out about the issue, saying the rules put in place by the federal government are unfair. All three are desperate in shutting Verizon or any other foreign telecom giant out of their monopoly-like situation. With Verizon potentially entering the market, the Big 3 will likely be forced to change their rates, and take a large financial hit in doing so.  

Verizon will find success

The main concern among the Big 3 is Verizon's ability to piggy-back on infrastructure that is already put in place. If they can purchase Wind Mobile or Mobilicity, they are allowed to own up to 10% of the total market share, and can use the networks of Bell, Telus, or Rogers. CEO of Bell, George Cope, described the system:

“That would be akin to Wal-Mart coming to Canada and the government saying to Canadian Tire, they have to give Wal-Mart 20 of their best stores and put Wal-Mart’s products on their shelves"

The fact that Verizon can enter Canada and leech off the Big 3 will make the transition very easy, will enable them not to pay for employees to maintain the network and will allow for them to gain their feet. 

For Verizon, this is an amazing opportunity to regain a place in the Canadian market that they gave up many years ago. The company's previous experience in Canada will be beneficial if its initial bid of $700 million for Wind Mobile goes through.  At this point, Wind Mobile and Mobilicity only have 850,000 subscribers between them, a number that Verizon would definitely bring up if they make an acquisition. Verizon's capital will also allow for rapid expansion, adding 2.7 million customers, or 10% of the total market. The company's $0.54 EPS in the last year will likely rise when they gain this many new customers. Verizon can easily find success in Canada, and its earnings will show that if the deal occurs. 

The Big 3 are sinking...abandon ship!


Since the beginning of June, all three stocks have dropped, mostly due to investor uncertainty. Telus is down around 13%, Rogers is down 12%, and Bell is down 8%. With Verizon's entry seeming more and more imminent, the prices will continue to be low. As a long-term investment, any of the Big 3 seem like a bad choice. Competition from a heavyweight with deep pockets cannot be good for continued success. The entire face of the Canadian telecom industry will never be the same again if a deal can be made before Sept. 17 when the bidding window closes.  As it stands right now, the Canadian government is not interested in changing the rules to block companies like Verizon.

    


Erik MacLennan has no position in any stocks mentioned. The Motley Fool recommends Rogers Communications (USA). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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