The surprise move from Sky to partially switch wholesale broadband providers from BT Group PLC (LSE:BT.A)’s Openreach network to alternative network disruptor CityFibre sent a shockwave through BT’s share price this week.
It has also garnered mixed reaction from City analysts, who are split on the net impact of the sudden development on BT Openreach’s status as the incumbent wholesale broadband provider.
“The shift to dual wholesale partner strategy by Sky has been a long-term concern for (BT) investors,” noted Citi analysts, although “we believe the financial impact from partnering with CityFibre is manageable”.
The biggest net loser could actually be Virgin Media O2, which, as JPMorgan analysts pointed out, CityFibre’s 3.8 million-home footprint has a 66% overlap with.
In contrast, only 1.5 million homes in CityFibre’s network overlap with BT Openreach’s current 15 million home footprint.
VMO2 does not expect to match 15 million full-fibre homes until 2028, at which time BT Openreach is expected to have 25 million homes under its belt and CityFibre more than eight million homes.
To make matters more complicated, VMO2 already has a ‘gigabit-capable’ footprint of around 17 million homes, but most of these connections are Hybrid Fibre-Coaxial (HFC). High speed, yes, but not to the extent of full-fibre.
Regardless, while BT Openreach and VMO2 are likely to remain the two dominant wholesale broadband players in the UK, CityFibre is genuinely emerging as the third in the race.
A lot of CityFibre’s planned expansion is through the UK government-backed Project Gigabit programme to enable hard-to-reach communities to access gigabit-capable broadband.
“We expect limited build from BT” in these areas, said JPM.
Even if CityFibre is a minimal threat to BT Openreach, the consensus is that BT Openreach will gradually lose its existing 70% market share.
JPM models a two-percentage-point-per-year market share loss for Openreach, terminating at around 60% in the long term.
Whether that’s because of VMO2 or because of CityFibre and other encroaching altnets is a peripheral matter.
Priced in or not?
For JPM analysts, these shifting sands are already priced into BT’s shares, which JPM gives a 290p price target, suggesting some 110% worth of upside in store.
UBS predicts a sharper near-term impact for BT Openreach following the Sky-CityFibre deal, estimating a £120 million-per-year (that’s around 7-8%) impact on free cash flow once the collaboration is up and running.
Furthermore, CityFibre’s wholesale pricing is extremely competitive at around 20-30% cheaper than Openreach’s; why wouldn’t Sky take advantage of this as much as it can?
“We would expect Sky to migrate all of its subscribers within the CityFibre footprint away from Openreach over time,” said UBS.
UBS also pointed out that Openreach could cut wholesale prices even further to defend its position, despite the prospect of scrutiny from the watchdog.
The hypothesis is not without merit- yesterday, a BT spokesperson told Proactive: “Ofcom has said that Openreach is allowed to compete and make pricing offers, so we reserve the right to consider further special offers in the future."
Perhaps that could stabilise declining market share, but at the cost of lower average revenue per user (ARPU).
Talking the Talk
There is another potential headwind on the horizon for BT in the form of a possible merger between VMO2 and internet service provider TalkTalk.
TalkTalk and VMO2 reportedly renewed merger discussions in February after shelving the estimated £3 billion deal in 2022.
“Any potential acquisition of TalkTalk could give VMO2 a secondary brand to target the value segment of the market and yield potentially significant synergies from transferring subscribers over to the VMO2 network,” said UBS.
This casts a shadow over TalkTalk’s circa £850 million annual contracts with BT Openreach.
As for the end customer, this transition to a genuine three-player full-fibre market could lead to lower broadband prices as network providers compete for the fairly small pool of major ISPs out there.
As for BT shareholders, the outcome remains to be seen.