October 13, 2016 / 2:22 AM / 10 months ago

Fitch: Mixed-Ownership Pilot May Derail Chinese Telcos' Mega-Merger

(The following statement was released by the rating agency) HONG KONG, October 12 (Fitch) Fitch Ratings says that the potential mixed-ownership reform pilot for China Unicom (Hong Kong) Limited (CUHKL) is unlikely to harm the market positions and credit profiles of China Mobile Limited (CML, A+/Stable) and China Telecom Corporation Limited (CTCL, A+/Stable). However, the reform could delay or derail any merger between CTCL and CUHKL, the second- and third-largest Chinese telecommunications companies, respectively. Fitch believes that if the reform plan proceeds, it may involve the introduction of private capital, reduction in state ownership - but not control - and some increase in management autonomy. On 10 October 2016, CUHKL announced that its parent China United Network Communications Group Company Limited (Unicom Group) could be selected to be in the first pilot for mixed-ownership reform, pending final government approval. Currently, the State-owned Assets Supervision and Administration Commission owns 98% of Unicom Group and has an effective stake of 62% in CUHKL. Although the implementation of the reform is still being studied, we expect the plan to introduce domestic strategic investors to CUHKL or part of its businesses. The sale of strategic stakes overseas is less likely as foreign strategic investors in the Chinese telecoms sector have not been able to exercise much influence over their investments over the past two decades. Spain's Telefonica SA (BBB/Stable) still has a stake of close to 1% in CUHKL and maintains the strategic alliance with CUHKL formed in 2009. CUHKL would benefit from fresh equity, which would allow the company to deleverage; CUHKL's debt rose to more than CNY152bn at end-June 2016 from CNY138bn at end-June 2015. Without new equity, we expect CUHKL's FFO-adjusted net leverage to approach 3x in 2016, compared to our forecast net leverage of -0.3x and 2.0x for CML and CTCL, respectively. It would take a substantial amount of new capital to recapitalise CUHKL to achieve gearing similar to CTCL. Fitch believes government control in Unicom Group or CUHKL is likely to remain strong, even if reform goes ahead. Telecom assets fall in the middle of the two broad groups of Chinese state-owned enterprises: for-profit entities and those serving public welfare. We expect the Chinese government to maintain majority control in Unicom Group or CUHKL while aiming to improve efficiency and achieving the state's goals for connectivity and development of high-tech industries. We also believe the introduction of private capital into Unicom Group or CUHKL will not, in itself, alter the industry structure. Without corresponding industrial policies to rebalance the industry, we expect CML to extend its mobile dominance, putting more pressure on smaller operators. CML's mobile service revenue market share was 69% in 1H16. We also expect CTCL to retain its leading position in wireline services (revenue market share of 56%), which in turn will help its mobile growth. The potential merger between CUHKL and CTCL will be unlikely if the reform goes ahead. A merger would go against the objective of the mixed-ownership reform, which is to increase private ownership in state-owned enterprises to drive efficiency gains. Nevertheless, there could still be savings in capex and operating expenditures as we expect CUHKL and CTCL to continue their strategic alliance on network sharing and collaboration in new business investments regardless of the mixed-ownership reform. Contact: Kelvin Ho Director +852 2263 9940 Fitch (Hong Kong) Limited 19/F., Man Yee Building 68 Des Voeux Road Central, Hong Kong Steve Durose Managing Director +61 2 8256 0307 Media Relations: Wai-Lun Wan, Hong Kong, Tel: +852 2263 9935, Email: wailun.wan@fitchratings.com. Additional information is available on www.fitchratings.com ALL FITCH CREDIT RATINGS ARE SUBJECT TO CERTAIN LIMITATIONS AND DISCLAIMERS. PLEASE READ THESE LIMITATIONS AND DISCLAIMERS BY FOLLOWING THIS LINK: here. IN ADDITION, RATING DEFINITIONS AND THE TERMS OF USE OF SUCH RATINGS ARE AVAILABLE ON THE AGENCY'S PUBLIC WEB SITE AT WWW.FITCHRATINGS.COM. PUBLISHED RATINGS, CRITERIA, AND METHODOLOGIES ARE AVAILABLE FROM THIS SITE AT ALL TIMES. FITCH'S CODE OF CONDUCT, CONFIDENTIALITY, CONFLICTS OF INTEREST, AFFILIATE FIREWALL, COMPLIANCE, AND OTHER RELEVANT POLICIES AND PROCEDURES ARE ALSO AVAILABLE FROM THE CODE OF CONDUCT SECTION OF THIS SITE. 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