PLDT-Digitel Merger

Pro- or Anti-consumer?

The Financial Implication

Does the deal increase shareholder value?

PLDT recently entered into a merger transaction with Digitel

1 Above shareholding outcome assumes all Digitel minorities opt for share consideration and JGS/First Summit exercise put-call option

2 Convertible to 18.6 billion Digitel shares by Jun 2011SOURCE: JP Morgan

Merger announced on Mar 29, 2011

First Pacific

NTT OthersJG Summit Holdings

Others

PLDT Digitel

Before

First Pacific

NTT

JG Summit Holdings

Others

PLDT + Digitel

After

26.0% 53.2%20.8% 47.4% 52.6%

25.1% 18.0% 10.1% 46.8%

Total purchase consideration of US$ 1.7 billion paid through –

▪ Equity consideration

– 51.55% stake in Digitel

– Offer for remaining 48.45% stake

▪ Debt consideration

– Zero-coupon convertible bonds2

– Intercompany advances of USD 0.8 billion

1

2

“Transaction valued at 15x EV/EBITDA”

Change in ownership structure1PLDT Digitel merger overview

• Purchase consideration implies feasible merger synergies of ~USD 1.1 billion – going way beyond cost synergies

The Market Implication

- Market Power Concentration: Revenue and SIM share

- The Spectrum Play: Scarcity of Resources

Market Power concentration resulting from the Merger

5

1 Herfindahl–Hirschman Index (HHI) as a measure of market concentration

SOURCE: McKinsey

How competition authorities would look at it!

HHI index1

5,503

4,545

5,846

4,033

1,800

Before merger

+1,813

After merger

Before merger

After merger

+958

Subscribers Service revenues

Textbook regulatory considerations

▪ Any market with HHI >1,800 is considered highly concentrated

▪ Any increase beyond 100 HHI point would then be considered anti-competitive

No legal constraint in the Philippines

Merger will be hard to prevent in the current Philippine legislation

▪ The Philippines does not have a national competition authority nor specific rules governing mergers that are potentially anti-competitive

▪ The NTC regulates the industry and responsible for healthy competition and protect consumers from monopoly, or quasi-monopoly powers.

▪ However, there are no specific rules governing significant market power (SMP) in the industry

▪ In December 2005, the NTC proposed rules on restraining SMP but were never adopted because of PLDT’s opposition

SOURCE: Merrill Lynch; Digitel Annual Report

Mobile revenues and revenue market share

1 Based on extrapolating 2010 Q1-Q3 results

After the merger, Smart/Sun would have ~66% revenue market share in mobile market

RevenuesPhP billions

2006

129

(38%)

(2%)

(57%)

149

2010

(66%)

(34%)

149

2010 (post-merger)

7.9%-0.3%

(31%)

(8%1)

(52%)

2008

150

(35%)

(5%)

(56%)

Mobile subscribers and subscriber market share

SubscribersMillions

15.8%

24.6%

2010 (post-merger)

88

(29%)

(71%)

2010

88

(29%)

(17%1)

(54%)

2008

66

(38%)

(9%)

(54%)

2006

42

(37%)

(6%)

(57%)

SOURCE: ML Wireless Matrix, WCIS

0

10

20

30

40

50

60

0 0.02 0.04 0.06 0.08 0.10 0.12 0.14 0.16 0.18 0.20

Change in industry concentration(HHI change)

Spectrum to be surrendered to competitionMHz

Threshold for concerns of competition authorities

Smart / Sun merger changes the industry concentration by a 0.18 HHI points and will justify a major disposal of spectrum

In many markets, the regulator required the return of spectrum when market concentration increased due to mergers

1 Herfindahl–Hirschman Index (HHI) as a measure of market concentration

8SOURCE: Merrill Lynch

0.18

0.23

0.31

0.34

0.34

0.34

0.35

0.35

0.36

0.39

0.40

0.52

0.58

Australia

Thailand

Malaysia

Singapore

Japan

Korea

Philippines(before merger)

China

Philippines (after merger)

Ø 0.35

India

Pakistan

Bangladesh

Indonesia

Industry concentration for Telecom industry of countries in AsiaHHI, Dec 2010

Philippines has one of the highest concentrations in Asia

Spectrum is the service delivery platform for telecommunications.

• Dictionary definition: A frequency of electromagnetic radiation in the range at which radio signals are transmitted, ranging from approximately 3 kilohertz to 300 gigahertz.

• Contextual definition: Akin to real estate or commercial space for telecommunications, spectrum represents the means or tools by which a public telecommunications entity (PTE) delivers services to a finite number of subscribers. More/less “real estate” serves more/less subscribers; more/less “commercial space” means more/less services deliverable.

It is a scarce public resource enshrined in law.

The radio frequency spectrum is a scarce public resource that shall be administered in the public interest and in accordance with international agreements and conventions to which the Philippines is a party and granted to the best qualified. The government shall allocate the spectrum to service providers who will use it efficiently and effectively to meet public demand for telecommunications service and may avail of new cost effective technologies in the use of methods for its utilization. – Republic Act 7925, Article II, Section 4(c)

The radio frequency allocation and assignment shall be subject to periodic review. The use thereof shall be subject to reasonable spectrum user fees. Where demand for specific frequencies exceed availability, the Commission shall hold open tenders for the same and ensure wider access to this limited resource. – Republic Act 7925, Article V, Section 15

The consolidation of PLDT/Smart and Digitel/Sun will result in an lopsided imbalance of spectrum allocation in their favor.

155 MHz vs 55 MHz 3.5 : 1 Ratio

On 3G alone, the ratio is 1:4.5 in favor of PLDT/Digitel

850 MHz 900 MHz 1800 MHz 2100 MHz 2300 MHz 2500 MHz 850 MHz 900 MHz 1800 MHz 2100 MHz 2300 MHz 2500 MHzPLDT/Smart 10 MHz 7.5 MHz 20 MHz 25 MHz 30 MHz 20 MHz 10 MHz 7.5 MHz 37.5 MHz 35 MHz 30 MHz 35 MHzGlobe - 17.5 MHz 12.5 MHz 10 MHz - 15 MHz - 17.5 Mhz 12.5 Mhz 10 MHz - 15 MHz

Prior to PLDT acquisition of Sun After PLDT acqusition of Sun

GSM 3G WiMax 2G 3G WiMaxPLDT/Smart 27.5 MHz 25 MHz 20 MHz 45 MHz 45 MHz 65 MHzGlobe 30 MHz 10 MHz 15 MHz 30 MHz 10 MHz 15 MHz

Prior After

All other usable spectrum resources considered, including bands in the 3400 MHz and 5400 MHz ranges, the gap widens further.

Spectrum Band Smart + Sun Globe

850 MHz 10 MHz None

900 MHz 7.5 MHz 17.5 MHz

1800 MHz 37.5 MHz 12.5 MHz

2100 MHz 35 MHz 10 MHz

2300 MHz 30 MHz None

2500 MHz 35 MHz 15 MHz

3400 MHz 94 MHz 14 MHz

5400 MHz 123 MHz None

TOTAL 372 MHz 69 MHz

5.4 : 1 Ratio

Globe serves 26.5M subscribers with only 69 MHz while Smart + Sun shall effectively serve 60M subscribers with 372MHz.

Therefore, Globe serves 384K subscribers with every 1 MHz of spectrum whereas Smart + Sun will only address 161K subscribers with every 1 MHz of spectrum.

Theoretically, Smart + Sun should NOT be assigned more than 224 MHz of spectrum (vs 372 MHz post-consolidation) to cater to 60M subscribers.

In the end, however, the ratio of spectrum to subscribers is hardly as important as the equitable distribution of a scarce public resource in the name of fair competition.

• While there are nuances to the “efficient” utilization of spectrum –• Subscriber usage profiles (e.g. data-savvy users tend to take up more bandwidth);• Richer services (e.g. video streaming requires more bandwidth);• Service quality levels ( e.g. “budget” quality calls possible with less bandwidth) –

• Between two players seteris paribus, it costs less to serve the same number of subscribers with more spectrum from an investment-to-capacity perspective.

• Ultimately, using the real estate or commercial space analogy, the player with more land does not have to build as tall a structure to serve the same number of people as the player with less land (and is compelled to go “high rise” at more cost).

• With more spectrum simply, PLDT-Digitel will be able to serve more customers and deliver more services than Globe.

Spectrum disposal

Spectrum allocation for 3G/4G mobile data services will result in significant unit cost advantage for merged Smart/Sun1

At in-country mergers, most regulators have required merging companies to return or sell parts of their 2G/3G spectrum

Consistent with international examples, Smart/Sun should be required to surrender/sell a part of its spectrum (i.e., 2x10 MHz) to Globe to minimize the anti-competitive effect of the merger

The merger significantly extends the calling circle of Smart and the attractiveness of its on-net offers. e.g., unlimited, to customers

This can be countered by asymmetric interconnection charges in which Globe is granted a discounted interconnection charge (i.e., by 1 PHP per minute) to increase the commercial viability of competitive off-net offers in Globe

1 Significant gap in competitiveness already prevalent prior to merger with, e.g., Smart owning 2x25 MHz in 2,100 MHz band vs. Globe’s 2x10 Mhz

Asymmetrical interconnection

Many regulators have strict rules to ensure fixed mobile bundling does not lead to unfair competitive advantages, e.g., in South Korea ensuring that bundles are replicable and In France and Spain where quadruple play bundling is banned

Furthermore, any exclusivity deals limited to the Philippine market for, e.g., content, distribution channels, will restrict fair competition

Exclusionary practices

There are a number of interventions taken by regulators

worldwide to ensure a level playing field among competitors

SOURCE: Press; NRAs

National consolidation dealsCountry Acquirer Target Date NRAs conditions

UK Orange T-Mobile 2009 The European Commission cleared the proposed merger conditional on divestiture of a quarter of the combined spectrum of the merging parties in the 1800 MHz band and amendment of an existing network sharing agreement with Hutchison 3G UK to ensure that there remain sufficient competition

USA Verizon Alltel 2008 Merger approved on the condition that the combined company divest radio spectrum assets in 100 markets in 22 states where the two companies overlap.

Idea Cellular

Spice Com

2008 The TRAI requested Idea to surrender its UASL licences in overlapping regions (e.g. the Punjab and Karnataka circles, where Spice also had operations).

Brazil Oi Tele Norte

Celular

2008 Anatel asked Oi to return TeleNorte Cellular’s 15MHz in the 850MHz band immediately, with the remaining frequencies to be returned in the next 18 months

India

Many in-country consolidations were asked to surrender spectrum in order to gain regulatory approval (1/3)

SOURCE: Press; NRAs

Denmark Telia Orange 2004 Danish regulator required Telia to return one set of GSM 900/1800 by end of 2005. it was also required and to return or sell one of the two UMTS licenses the merged entities have no later than 31 January 2005

Chile Telefónica BellSouth 2005

Peru Telefónica BellSouth 2005

In Chile Telefonica was required to sell 25MHz of its spectrum in the 800MHz band within 18 months.

The regulator asked TEM Peru to hand back one of its 25MHz licences, and was given 2 years to switch subscribers over to the 1800MHz band

Argentina Telefónica BellSouth 2005 The regulator approved the merger conditional to the return of 35 MHz spectrum to the government within 2 years. In Argentina, no operator is allowed to hold over 50MHz.

National consolidation dealsCountry Acquirer Target Date NRAs conditions

Many in-country consolidations were asked to surrender spectrum in order to gain regulatory approval (2/3)

SOURCE: Press; NRAs

National consolidation dealsCountry Acquirer Target Date NRAs conditions

UkraineBeeline/

Vimpelcom Kyivstar2010

NRA approved the deal despite the merger leading to a player with 58% of GSM 900 and over 50% of 1800 frequencies.

VimpelCom subsequently announced plan to volun-tary refarming its spectrum amongst domestic mobile operators and relinquish excess spectrum. This move was clearly to appease opposition from smaller players (e.g. Astelit) who oppose the deal

USA AT&T T-Mobile 2011 (ongoing)

AT&T is reportedly prepared to pay a $3 billion breakup fee and shed a significant chunk of T-Mobile spectrum

Many in-country consolidations were asked to surrender spectrum in order to gain regulatory approval (3/3)

What will this merger bring to the Consumer?

What’s in it for the consumer?

• Monopoly is back– 95% of broadband is theirs!

• Pricing dictatorship– Full interconnection was never a reality, even after

21 years!– Lack of IP peering, affecting internet services

• Product and Service Innovation– Could we be happier with just analogue?

We need a level playing field for free market competition to work!

Consumers should be given the choice!