O2 completes full convergence U-turn amid Virgin Media merger talks

Two years ago, O2 CEO Mark Evans said he was not convinced by the idea of convergence, but as merger talks between O2 and Virgin Media swell, the telco has entered into moonwalking mode.

The negotiations between O2 parent company Telefónica and Virgin Media owner Liberty Global, which have been confirmed by Telefónica’s group corporate communications team, would being together two of the UK’s connectivity heavyweights, significantly shifting competition dynamics in the telecoms market.

“A deal between O2 and Virgin Media has much logic,” said Kester Mann of CCS Insight. “Notably, it would offer each side crucial assets it severely lacks: a mobile network for Virgin and a fixed-line arm for O2. Should it come to fruition, it would transform the UK telecoms industry and a create a giant converged provider to rival BT.”

As Mann highlights above, the merger of the two parties would certainly create a converged telco capable of challenging the market dominance of BT. For one reason or another, the convergence trend was passing these telcos by, but uniting powers is a very interesting move.

At Virgin Media, this is a team which attempted to make waves with bundled service offering, but never really cracked the equation. The TV element was always a bit weak, while not owning its own mobile network was always going to put it a step behind the main players.

Source: Omdia World Information Series

*Too early to tell how successful the partnership with Disney+ to add a content element to O2 bundling has been

At O2, the executive team always made a point that the telco was a mobile connectivity business and it would not get distracted by side-missions into content or broadband. This stubborn position has of course been watered down over the last year or two, and now it appears Telefónica is embracing the convergence trend without prejudice.

To date these are companies who have been successful focusing on core competencies, but the world is of course changing, with the risks to pureplay telcos very noticeable.

“Neither company is immune to the driving need for a converged network and services,” said Paolo Pescatore of PPF Foresight.

“This is the next battle ground in the UK. Virgin Media has been one of the pioneers in this area but has been let down without a mobile network, late to market in 4G and a struggling TV business. Whereas O2’s sole focus on mobile and championing consumers will run out of steam at some point.”

What is of course worth noting is that this is a deal which is far from complete. Firstly, the duo would have to agree on a price, secondly, existing partnerships would have to be unwound, one of the brands would have to be folded into the other and finally, regulatory approval would have to be sought.

Both of these UK telcos are successful components of international corporations. Group level executives would want to ensure there the business benefits suitably financially, while also maintain a high enough stake in the merged business moving forward. This could prove to be a prickly point during the negotiations.

In terms of the existing partnerships, Virgin Media signed a very prominent MVNO agreement with Vodafone in recent months, while O2 offers MVNO services to Sky. These deals would likely have to be examined during the negotiation periods to ensure a merged party does not offer to much assistance to rivals.

Although O2 and Virgin Media are successful brands in their own right, one would have to give way to the other. BT and EE co-exist in the same group function, but the full benefits of convergence cannot be realised with two distinct brands. The teams would have to figure out which brand survives, and which one dies.

Finally, regulation. This has been an irritation for UK telcos in recent years as European authorities seem very dismissive of consolidation demands from the industry. As service overlap between O2 and Virgin Media is minimal, we suspect this will not be too much of an issue, though the likes of BT, Vodafone, Sky and Three will likely kick up a stink as the merged entity is a threatening prospect.

Should all the pieces fall into place, this is a move which could benefit both parties considerably. O2 would gain more access to fibre assets, Virgin Media to mobile infrastructure and both would be able to offer a broader portfolio of services.

Convergence is a business model which offers considerable gains in terms of customer loyalty, operational efficiencies, net promoter score, average revenue per user and momentum in diversification ventures. However, the barriers to entry are high, time consuming and very expensive. This is far from a finished deal, but it would create a much more competitive force and a potential catalyst for disruption in the UK market.