Following the European Commission’s conditional approval of Telefonica Deutschland’s (“Telefonica”) acquisition of E-Plus on 2 July 2014, industry observers have predicted further consolidation in the EU’s mobile telecommunications sector. We look at some of the broader political issues which were raised by the merger as well as some of the legal issues which arose as part of the decision-making process.

The Decision

In October 2013, Telefonica notified the Commission of its proposed €8.6 billion acquisition of rival German mobile network operator (“MNO”), E-Plus. The purpose of the acquisition was to bring together the third and fourth largest MNOs in Germany in order to create an operator with the largest share of the German market, leapfrogging Deutsche Telecom and Vodafone, formerly the first and second largest operators (measured by number of customers) in the German market.

On 2 July 2014 the Commission announced its approval of the merger, subject to the following conditions:

  • Telefonica’s sale of up to 30% of the merged entity’s network capacity (by bandwidth) to up to 3 mobile virtual network operators (“MVNOs”) (on a ‘dedicated pipe’ model as opposed to the more commonly used pay-as-you-go model);
  • Telefonica’s commitment to divest spectrum and certain assets either to a new MNO entrant or subsequently to the MVNOs referred to at (1) above; and
  • Telefonica’s commitment to extend existing wholesale agreements with its (and E-Plus’) current partners, to offer wholesale 4G services to all interested players in the future and to improve its wholesale partners’ ability to switch their customers between MNOs.

In its press release announcing the conditional approval, the Commission stated that these commitments addressed its competition concerns, in that they would ensure that at least one, and up to three, MVNO(s) would enter or expand into the German market, thus ensuring the maintenance of a sufficient degree of competition notwithstanding the elimination of E-Plus.

We explore some of the factors that led to the proposed merger being widely followed and reported, including:

  1. the Bundeskartellamt’s (the German national competition authority) unsuccessful request that the Commission refer the merger to it for an assessment;
  2. the substantive competition issues raised by the merger which was the subject of an in-depth Phase II investigation by the Commission;
  3. the Advisory Committee’s dissent from the proposed conditions attached to the Commission’s approval (only 2 of 12 national competition authorities (“NCAs”) voted in favour of the commitments proposed by Telefonica);
  4. the extent (if any) of political influence over the outcome of the merger; and
  5. the widespread perception that approval of the merger is likely to mean consolidation and further investment in the EU’s mobile telecommunications industry.

(i) The Bundeskartellamt’s unsuccessful application for the Commission to ‘refer back’ the assessment of the merger

Shortly after the merger was first notified to the Commission in October 2013, the Bundeskartellamt submitted a request under the EU Merger Regulation for the Commission to ‘refer back’ to it the assessment of the merger. Article 9 of the Merger Regulation provides that the Commission may refer a merger to a NCA in whole or part, where: (i) on the face of it the acquisition will have an effect on competition; and (ii) the geographic market affected by the merger is national (or narrower than national) and is located within the requesting member state.

The Bundeskartellamt’s application was made on the basis that the competitive effects of the merger were limited to the German market and that therefore the Bundeskartellamt was in a better position to assess the impact of the merger than the Commission. Such requests are relatively rare, having been made in less than 2% of the cases notified to the Commission over the past 25 years. Equally, decisions to reject such requests are also rare: over the past 10 years fewer than 15% of such requests have been rejected.

In January 2014 the Commission announced that it had refused the Bundeskartellamt’s request. The reasons given by the Commission for the rejection of the request included: (i) the need to ensure consistency in the application of merger rules in the mobile sector; and (ii) the Commission’s experience in assessing mergers in the sector. It can be inferred from the refusal that the Commission reached the view that, notwithstanding the impact of the acquisition on the German market, the outcome of the acquisition would be likely to have substantial cross-border effects, perhaps because of the perceived fragmentation of the EU market.

Following the rejection, there were reports that the Bundeskartellamt was significantly concerned that, during the assessment, the development of the conditions subject to which approval would be granted would not fully compensate for the effects of a reduction of MNOs in the German market (in this case from 4 players to 3). It is unclear to what extent (if any) the Bundeskatellamt’s concerns impacted on the final conditions imposed on the merger’s approval on 2 July 2014.

(ii) Substantive competition issues

The Commission’s investigation was referred to Phase II, which means that when initially assessing the proposed merger (during a Phase I investigation), the Commission decided that in its proposed form the merger created serious doubts as to its compatibility with the internal (common) market. Phase II investigations are comparatively rare, with only six such proceedings initiated in 2013 (out of 277 notified transactions).

The Commission’s concerns following Phase I were that the merger (as initially notified) would remove two close competitors and important competitive forces from the German market and would further weaken the position of MVNOs and service providers; ultimately to the detriment of consumers.

The conditions placed upon the merger’s approval have apparently alleviated these concerns. Whilst Telefonica has reportedly already agreed to sell 20% of its network capacity to Drillisch (a German MVNO) with an option to purchase an additional 10% (thus meeting the first condition of the Commission’s approval), it remains to be seen when the second condition will be met which is designed to open the market up to a new entrant MNO.

Other mergers in the sector which have received (conditional) approval from the Commission in recent years and which have in common the fact that their effect was to reduce the number of MNOs active in the relevant member state from 4 to 3 include: (i) Ireland - Hutchison 3G UK’s acquisition of Telefonica Ireland; and (ii) Austria – Hutchison 3G Austria’s acquisition of Orange Austria. The Austrian merger was subject to a condition requiring the merged entity to set aside spectrum allowing a new entrant to the Austrian market (and thus ensuring that the number of MNOs active in Austria would not actually be reduced) but in that case the spectrum was not taken up and within a matter of days prices increased to the detriment of consumers. This outcome is likely to have influenced the Commission’s approach to the Telefonica acquisition.

The competitive dynamic within telecoms markets may have impacts beyond consumer prices. In 2012, Free’s entry to the French mobile market as a new MNO led to consumer prices falling by a third. However, such price falls significantly affected revenues and the profitability of a sector which employs well over 100,000 people in France and led to a need for restructuring of the workforce. Additionally, the mobile sector is seen by member states as a valuable source of revenue by way of spectrum auctions as well as tax. Joaquin Almunia, discussing reasons why the telecommunications market across Europe is fragmented, stated “these governments don’t want to allocate spectrum at EU level because they are not willing to forgo the billions raised in auctions, which go directly to their national coffers.”

(iii) View of the Advisory Committee

The Advisory Committee to the Commission comprises representatives of the NCAs of member states who wish to offer an opinion on the Commission’s decision before it is final. The Advisory Committee’s opinion is not binding on the Commission but the Commission is required to take the ‘utmost account’ of its opinion. In relation to this merger, the Advisory Committee met in June 2014 to review and vote on the Commission’s proposed conditions of approval. Reportedly, of the 12 NCAs who were present at the meeting, just 2 (Belgium and Sweden) were in favour of the conditions, whereas 5 voted against the conditions (Germany, Austria, Ireland, Italy and the UK). The other 5 NCAs present abstained from voting.

The fact that a significant number of the NCAs voting in the Advisory Committee were against the conditions proposed highlights the fact that many NCAs were concerned that the remedies proposed by the Commission to off-set anti-competitive effects (i.e. the conditions imposed on the merger’s approval) were likely to prove to be ineffective.

(iv) Political influence?

In recent months, Angela Merkel and Jean-Claude Juncker have both expressed the belief that merger rules should be ‘relaxed’ for the mobile telecommunications sector. Angela Merkel, in particular, has been reported to have said that there needs to be a balance between competition on the one hand, and market power on the other; and that without market power Europe’s telcos cannot ‘score internationally’. She pointed out that China has 3 major MNOs, whereas Europe has 28, and that if any of the 28 attempted to expand, competition law could prevent them from doing so.

It has been reported that European politicians now view the telecommunications sector as the basis of the future digital economy and that for such an economy to thrive (and compete on a global scale), the telecommunications sector needs significantly greater investment which is likely to be possible only after consolidation.

Observers will speculate as to whether the publicly expressed views of politicians such as Angela Merkel had any impact on the Commission’s ultimate approval of the merger. However, speaking in London after the approval had been announced, Joaquin Almunia, the European Commissioner for competition, reaffirmed that the decision had been reached on a purely competition law basis, without political influence, and that the conditions imposed on the approval had ensured that the merger would not harm competition in the German market.

(v) Further consolidation and investment?

Revenue across Europe’s telecommunications industry is reported to be declining: down 12% since 2008. This decline is at odds with the world’s other major telecommunications markets such as the US and Asia. Factors which have been thought to contribute to this decline include over-borrowing in order to fund purchase of spectrum as well as over-optimistic expansion. In addition, new legislation has impacted on roaming and call termination charges, and services offered by companies such as Google, Facebook and Skype have provided consumers with further alternative options to traditional telephone calls and text messages.

The industry has been vocal in its calls for an ‘evolution’ of merger rules: it seems likely that the concept of ‘evolution’ in this context entails a relaxation of the merger rules with a view to permitting consolidation even if such consolidation is to be achieved at the expense of local competition. The background to such calls is the belief that significant levels of investment are required in the EU’s telecommunications industry (for example converting networks to 4G and fixed line to fibre). For such investments to be attractive, the market needs to provide better returns and a more stable investment environment.

In an open letter addressed to the Commission by the GSMA, and signed by several CEOs of European mobile operators, the necessity of consolidation was one of the elements highlighted as critical to the future success of Europe’s telecommunications industry.

However, in May 2014, Joaquin Almunia stated that calls for a relaxation of merger rules for telcos were ‘misguided’ and ‘would have as a consequence a transfer of costs towards the consumers,’ and that the lack of sector consolidation arose as a result of member states’ desire to retain control over the distribution of their own spectrum and differences between the regulatory environment across member states.

An additional factor contributing to this fact is that while the way consumers use of mobile phones has changed significantly over past years, some commentators believe that telcos’ business models have not changed sufficiently to reflect changes in the market and consumer behaviour and trends.

Summary

Notwithstanding Commissioner Almunia’s statements to the contrary, the perception of some commentators is that the conditional approval of this merger reflects a softening of the merger regime in the sector.

In addition, it has been widely predicted that the decision opens the way to further consolidation in numerous other European telecommunications markets including Italy, Sweden and the UK in that it provides a framework for the competition law assessment of similar acquisitions. If that turns out to be the case, it is likely to pave the way for increased consolidation and greater investment stability in the EU telecommunications industry. If so, this would also respond to the calls of leaders in the telecommunications industry.