LONDON (Dow Jones)--KPN's EUR776-million takeover bid for Getronics comes with its fair share of uncertainties and threatens to ensure KPN's recent poor share performance.
The Dutch telco's share price has underperformed the Euro STOXX Telecommunications index by 4% over the past two months. The stock's trading at 13X estimated 2008 earnings, below the sector median of 15X.
That's probably unfair treatment by investors impatient over the company's VOIP problems that cost KPN between EUR25 million and EUR30 million in additional expenses in the first quarter 2007, a tidy sum albeit small compared with total Ebitda of EUR1.2 billion for the period.
Those problems are now behind KPN, and there are plenty of opportunities for it to boost its future performance.
Its mobile phone business in the Netherlands is a good example. Analysts predict its Ebitda margin to improve to 50% in 2010 from about 42% currently because of industry consolidation which might add 20% to the company's net income.
But that promise could be tarnished by incorporating Getronics.
True, it would make KPN the leader in providing information and communications technology services in the Benelux. But KPN should question whether that's a road it wants to go down.
But KPN is paying up for the privilege. At a multiple of 18X 2006 EV/Ebit, KPN is paying a higher price than the 12X that Belgacom paid for Telindus last year.
And with the exception of British Telecom, Europe's telcos haven't had much success with ITC acquisitions.
Look at the trouble T-Systems has caused Deutsche Telekom. T-Systems, itself the result of successive acquisitions incorporated into Deutsche Telekom's inhouse ITC units, finds it hard to deliver a positive Ebit on its EUR12 billion revenue and Deutsche Telekom is now looking for a partner to offload it to. France Telecom has battled similarly with Equant.
And despite the work that new CFO Maarten Henderson, a former KPN board member, has done to clean up Getronics through divestitures and taking impairments, the business isn't the finished product yet.
KPN will have to turn the company around. It's had no free cash flow for the past four years, and it made a loss of EUR54 million in 2006. Getronics recently warned that its 2007 Ebit margin would drop to between 3% and 3.5% from its previous guidance of 4.5%.
Getronic's Benelux operations are the most attractive part of the company, fitting in well with KPN's existing operations and contributing 60% of Getronics' revenue. But KPN will have to decide what to do with Getronics' U.S. and U.K. operations.
They're too small scale to provide any real strategic value to KPN, and struggle to deliver much of a return. Analysts expect them to deliver only EUR10 million earnings on revenue of EUR1.2 billion in 2007.
But without an international presence, KPN will battle to maintain existing multinational contracts with businesses such as Barclays and Novartis, and also to win new ones.
After all, generating decent returns long-term from Getronics has to come partially from sales growth rather than just cost-cutting in the Benelux and its fast-consolidating corporate sector.