Telefonica-Unicom: is a divorce imminent?

Telefonica could soon sell its remaining stake in China Unicom, ending an unsuccessful relationship that benefited neither side

Doug Young

Published: 12:50pm, 29 May, 2013

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An interesting low-key filing by Telefonica (Madrid: TELF) is leading me to wonder if the debt-laden Spanish telco may be preparing to sell its remaining 5 per cent stake in its laggard Chinese peer China Unicom ( 0762.HK; NYSE: CHU). I said last year that such a sell-down wouldn't surprise me at all, after Telefonica sold about half of its 10 per cent in Unicom last June, bringing its holdings to their current levels.

From an investment perspective, Telefonica's long-term partnership with China's second largest wireless carrier has been a major disappointment for both sides. Unicom has itself been embroiled in a series of major management shuffles over the last two years, with the result that it has become the least interesting of China's three major telcos. The company's shares have lost 35 per cent of their value during that time, even as dominant carrier China Mobile ( 0941.HK; NYSE: CHL) zoomed and the smallest wireless player China Telecom ( 0728.HK; NYSE: CHA) remained relatively steady.

All that said, let's take a look at the latest news, which I'll admit is a bit cryptic and could easily be a non-event. The news saw Unicom inform the Hong Kong Stock exchange that Telefonica had taken actions that resulted in a reduction of its stake in the Chinese telco to 4.99 per cent from a previous 5.01 per cent. I'm not completely clear what happened to reduce the stake, since Telefonica's share count remained unchanged throughout the process. It appears that Telefonica may have sold some derivatives related to Unicom's stock, which caused its stake to drop.

Obviously the reduction in this particular case is miniscule, and most people would say that Telefonica still holds 5 per cent of Unicom. But it's interesting to note that this move officially pushes Telefonica's stake below the 5 per cent level, which could be a some kind of threshold necessary for a next step that could see a total disposal of the stake.

Such a sale wouldn't be a huge surprise, since media have been speculating about it for a while. One report earlier this year said Telefonica was actually pursuing a sale. Another one last month said Telefonica was in need of cash to pay down its big debt, and that a sale of its Unicom stake, then valued at €1.3 billion euros, would be one of the easiest options.

It's not difficult to see why such a sale would be easy, as there's probably little or no actual relationship between the two companies beyond their equity relationship. Telefonica was full of hope for the partnership when the two sides strengthened an existing tie-up three years ago as part of the Spanish telco's hopes to eventually do business in China. But nothing ever happened in the partnership, as Unicom became embroiled in its non-stop management reshuffles and Telefonica faced its own debt explosion amid the European debt crisis.

As a result of all that, Telefonica sold about half of its stake last June to Unicom's state-owned parent, probably because no one else wanted the shares. I wouldn't be surprised to see Telefonica sell the remainder in the next few weeks, with Unicom's parent again stepping in as the buyer to try and avoid more declines in the company's share price.

From a broader perspective, this development would be interesting since it would leave China's three major telcos without a major foreign investor for the first time in more than a decade. China Mobile counted Vodafone (London: VOD) as one of its major stakeholders for a decade until the European giant finally sold its stake in 2010. Unicom has counted Telefonica and Korea's SK Telecom (Seoul: 017670) as major stakeholders over the years, while China Telecom has never had a major foreign partner.

Vodafone and now Telefonica's dumping of their China stakes both stem from the same reason, namely that neither company could derive any advantages from the partnership in entering China. Accordingly, I wouldn't expect to see any new similar tie-ups for at least the next year or two, though it's possible we could see something after that as China prepares to open up its telecoms market to virtual network operators (VNOs).

Bottom line: Telefonica could soon sell its remaining stake in China Unicom, ending an unsuccessful relationship that benefited neither side.

To read more commentaries from Doug Young, visit youngchinabiz.com

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