Tuesday, September 5, 2017

China Unicom's US$11.7 billion strategic investment brings advantages

China United Network Communications Group (China Unicom or 中国联通), the fourth largest mobile operator with over 270 million subscribers, recently closed a deal that will bring in US$11.68 billion in cash from top Chinese tech companies. Under the deal, the Shanghai-based holding company of China Unicom, will sell a 35.2% stake worth RMB 78 billion to 14 strategic investors, including the following.

The deal is backed by the Chinese government, which holds a significant stake in the China Unicom group and its various listed companies, as part of a wider effort to encourage private investment in state-owned enterprises. In this case, the multisided arrangement between China's biggest tech companies also ties the largest players so that their financial interests are closer aligned. After the investments are completed, by way of both new and old share sales, the state will hold approximately 25% of the new China Unicom A shares.

The deal is complex and since it was announced on Wednesday, trading of China Unicom shares has been halted on the Hong Kong market.  The transaction is described as follows: “Strategic investors will subscribe for about 9 billion new shares of Unicom A Share Company and purchase 1.90 billion shares of Unicom A Share Company from Unicom Group, representing in aggregate 35.2% of Unicom A Share Company’s enlarged share capital, at a price RMB 6.83 per share.”

While China Life is expected to invest the large amount, the deal is interesting mainly for the synergy it could generate with the Internet companies. There has already been word from Tencent that a special broadband card option will be available to China Unicom's mobile users giving the unlimited access for Tencent applications.

Current status of China Unicom

In mobile subscriptions in China, Unicom holds second place, far behind China Mobile but ahead of China Telecom. In fixed-line broadband, China Unicom trails behind its two rivals. As seen from China Unicom's 1H2017 financial results (highlighted below) competition is fierce between these top three operators.

In the first half of 2017, China Unicom’s service revenue reached RMB 124.11 billion, up by 3.2% year-on-year. EBITDA amounted to RMB 43.56 billion, up by 5.5% year-on-year, and accounted for 35.1% of the service revenue, up by 0.8 percentage point year-on-year; and profit attributable to the equity shareholders of the company increased by 68.9% year-on-year to RMB 2.42 billion.
Key operating metrics

Total handset data usage for 1H2017 soared 326% over 1H2016, reaching 2,522 MB (monthly average mobile billing handset subscriber DOU.
Handset Internet Access Revenue for 1H2017 reached RMB 42.90 billion, up 22.9% yoy.
Fixed-line service revenue (including legacy voice) was RMB 46.57 billion, basically flat yoy.
Fixed-line broadband access revenue amounted to RMB 21.56 billion, down by 3.0% year-on-year. The number of fixed-line broadband subscribers increased by 4.0% year on-year to 76.92 million.

China Unicom plans to several high-priorities for the remained of 2017 and 2018, including:

Accelerating mobile customer migration onto the 4G LTE network. In the first half of the year, Unicom added 34.26 million 4G subs, bringing it to 138.81 million out of a total customer base of 269.45 million, which means that about 52% of its customers are using the 4G network and 48% remain of 3G or 2G service. The migration is slower than seen by other operators worldwide, but the subscriber base to migrate is much higher, China is a huge country, and subscribers have to agree to a substantially more expensive monthly package. China Unicom’s 4G ARPU is RMB 66.50 (US$9.97) vs the company’s overall mobile ARPU of RMB 48 (US$7.19).
The 4G network rollout is mostly done.  In 2016, China Unicom installed 337,000 4G base stations bringing it to a total of 736,000 4G base stations in service.
CAPEX is down substantially for the second year in a row. The cost reduction trend is accelerating. In fact, in 1H2017 capital expenditure decreased by 49.5% year-on-year to RMB9.14 billion i
Capital Expenditures

  • 2015 – RMB 133.9 billion
  • 2016 – RMB 72.1 billion
  • 2017 estimate – RMB 45.0 billion

To drive ARPU, China Unicom is pushing subscription packages based on a “data + content” model. A recently launched “Unlimited Video Enjoyment”. WO Video, already has about 16 million subscribers. China Unicom will focus on differentiated video partnerships.
China Unicom claims to be the 2nd largest Internet data center operator / cloud provider in China. It has 12 national-standard cloud data centres in operation with approximately 122,000 data cabinets in services. China Unicom also has some 300 “local data centers”. Revenues for IDC/Cloud for 1H2017 reach RMB 5.80 billion, up 22% yoy.
China Unicom now has a pre-commercial NB-IoT network in operation.
In fixed-line home broadband, China Unicom reports that it has encountered extremely intense competition. For 1H2017, fixed-line broadband access revenue fell to RMB 21.557 billion from RMB 22.231 billion a year earlier. To counter this, China Unicom is again looking to pull more subscribers unto fiber access, and to feature IPTV with enriched content package to drive differentiation.

Implications of the newly announced strategic investments

Another interesting dynamic in this deal is that China Mobile and China Telecom is that the government pushed for this investment deal with China Unicom first.  The new investment and the commercial partnership could become a strategic advantage for China Unicom if the other two carriers fail to secure similar deals.  In terms of finishing the 4G rollout or beginning the 5G construction, the new cash will be advantageous. Special bandwidth + bundling arrangements with Tencent and Alibaba could be alluring.

The investment deal involves only private Chinese companies, so in this stage of reform, China is not acting to further open its telecom market to foreign investment. China Unicom has had an ongoing partnership with Telefónica for many years. A strategic alliance between the firms began in 2009 when China Unicom and Telefonica invested US$1 billion in the other party's shares. In 2011, the companies deepened their cooperation by investing the equivalent of US$500 million in the other party through the purchase of each party's shares. China Unicom raised its stake in Telefonica through the acquisition of 21,827,499 Telefónica shares at an agreed value of 17.16 Euros per share. In turn, Telefonica was to buy more shares in China Unicom from third parties. Since then, the companies have collaborated in technical research and in network interconnections. More recently, Telefónica has sold some of its China Unicom shares.  Its current holdings in China Unicom are probably under 2%.

In terms of overseas investments or strategic expansion China Unicom, like China Mobile and China Telecom, has pretty much abstained from large scale venture or acquisitions. Whereas carriers like Vodafone, Orange, Zain, MTN, NTT, Bharti Airtel or Singtel, have ventured widely into all of the countries of Asia and Africa, China Unicom has kept its focus only on its home turf. With the reduced government equity stake in the company, perhaps this will begin to change but it is too soon to know.

Network management policies could evolve in step with these deals

Another area to watch with this transaction involves network management. As it brings on strategic content partners, like Tencent, China Unicom will be incentivized to ensure that subscribers get assured access to bundled programming and applications.

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