KPN pays bonuses as share price increases 50% in 6 months

Tuesday 31 March 2015 | 14:14 CET | Market Commentary

Unions have called for KPN CEO Eelco Blok to give up his bonus, saying it's not appropriate given the thousands of jobs lost at the Dutch operator. They also called for a more long-term strategy and investment at the operator. At the same time, KPN's share price is up around 50 percent from six months ago. 

Crisis manager

Dissatisfaction over the bonus does not seem misplaced at first glance, as things have not been going well at KPN. The CEO could show some solidarity with employees and give something up, the same as they have made sacrifices. However, the poor results have mainly been caused by external factors: competition, the weak economy, more critical customers, the rise of free services (WhatsApp, Facebook Messenger, Skype, etc.) and free networks (Wi-Fi) and possible the most important: new technology. Every new generation of technology results in efficiency gains; this is not something new, but has been going on for decades. For the incumbent, contracting operations is business as usual. This turns the CEO largely into a crisis manager, leading the company through a continuous process of shrinkage. If he does that well, there's nothing wrong with compensating him. The share price can serve as a guide in this.

Short vs long term

KPN can also argue that attracting and retaining a CEO is subject to the conditions of the international labour market. He must be paid in line with market standards. A comparison with Google shows the two sides of the matter. The new CFO at Google will earn USD 70 million over two years, an order of magnitude much beyond KPN's CEO. KPN in contrast is the one aligning its financial policy with the demands of investors. Google turns its nose up at the financial world, providing no guidance on its results and investing in a wide range of projects. KPN plays the market's game gladly: the dividend must be maximised and investments (Capex) minimised. Paying the entire management in shares and stock options is of course a big part of this choice. The difference between Google and KPN is the difference between choosing for the long term or for the short term.

One can question whether KPN has a healthy long-term strategy and is investing smartly. KPN has faced touch competition from cable networks for many years, and it's questionable whether the former monopoly operator started switching to fibre soon enough. KPN is now focusing on somewhat experimental and expensive copper technology in order to limit its investments in fibre. KPN aims to connect only 450,000 households to fibre in two years, whereas this was previously its target for a single year. Alcatel-Lucent itself recently pointed out that VDSL2 with vectoring will not be sufficient for delivering stable connections of 100 Mbps. Additional technology is needed in order to achieve this. History may repeat itself for KPN, or the operator could achieve with the copper upgrade a quicker roll-out of faster speeds than FTTH would require. Which version will pan out is still uncertain.

Deutsche Telekom

There is still good news at KPN, which may be driving the higher share price. To start with, external factors: a possible takeover bid by Deutsche Telekom for KPN, rumours of which circulated in January. After the sale of EE in the UK, DT will hold a stake in BT, helping its plans to create a pan-European IP network. KPN would fit well with DT and its plans. There is finally the chance of generating synergies through the integration of international fixed networks. Eelco Blok rejected a few years ago a takeover bid from America Movil for KPN (something that would have paid out for shareholders), but he may be steering KPN now into the hands of DT.

Also good is the lack of profit warnings at KPN lately. After Blok took over, he clocked up a number of these, but the situation is quieter in recent quarters. This creates confidence in the market, helping reduce the under-valuation of the company. Also positive is the new management at KPN in the past year, with the appointments of a new COO, CFO and CCO. The operator's commercial strategy was in need of attention, given the tough competition and falling prices in the Dutch market. KPN's early advance in LTE gave it an advantage in the mobile market. Its results also appear to be improving (KPN talks of 'stabilisation'), but the question remains when they will return to growth. 

In the near term, the company still needs to address its weak balance sheet. It may also face renewed pressure from Ziggo, Vodafone and Tele2, which could be preparing new offensives in both the fixed and mobile markets. A sale of the Belgian unit Base would help KPN, and from April the lock-up on KPN's stake in Telefonica Deutschland expires.

Given the strong increase in the share price, it appears investors are betting that KPN should not fare too badly from the increasing competition, the operator will sell the rest of its foreign assets and there is a real chance of a takeover bid from Deutsche Telekom.

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