It was perhaps more a reflection of the intense sensitivity in the City to bad news than a carefully calculated appraisal of Carphone Warehouse’s prospects, but the hint of pessimism in Charles Dunstone’s outlook last week sent shares in the business nosediving.
Carphone’s retail business isn’t pretty, but the scrutiny has fallen onto the broadband business; an area of greater importance for Dunstone (pictured) since he effectively sold 50% of the retail business to BestBuy for £1.1bn.
The Carphone CEO hinted that the broadband business was slowing, and that he was re-evaluating his forecast for sales on the high street in light of the gloomy economy.
Dunstone’s comments immediately sent Carphone’s shares falling by 10%; down almost 28p to £2, despite sales and profits appearing very impressive.
Dunstone has gradually been easing his reliance on retailing mobile networks’ offers to building his own fixed-line telecoms business.
His telecoms business has never had an easy ride, ever since being overrun from the launch of free broadband offers, but it now has to stand up in a harsh economic climate and in a fiercely competitive market.
The deal with BestBuy helped ease the mounting debt from buying AOL UK for £370m in October 2006 and building a fixed-line business (predominantly establishing the customer service operation in Preston, Lancashire and the process of unbundling the exchanges from BT).
High market share
Carphone is now the third biggest player in the market through TalkTalk and AOL with a 17% market share.
The retailer has acknowledged rumours about its intention to buy Tiscalli (the fourth largest player), but those plans appear to have been kicked into the sand with the likes of Vodafone offering a more attractive deal to Tiscali’s management, including the prospect of buying both Tiscalli’s UK and Italy operations.
What will worry Carphone investors is that the connections rate on broadband has slowed.
According to Dunstone, there are simply fewer people shopping around for broadband, despite the fact that penetration in the broadband market is still only at 57% (Ofcom), in contrast to around 120% in mobile phones.
Dunstone suggested evidence could be seen in the form of intense advertising from Tiscalli which hadn’t seen a proportional swing in new connections: ‘Tiscalli has been advertising very heavily. We’ve been surprised that activity hasn’t had the [proportional] impact on its base.’
The explanation was put down to two things: fewer people moving home and the rise of dongles. ‘One of the key times people think of changing provider is when they move house,’ he said.
There is certainly some logic to the link between the slowdown in the housing sector with broadband, but some critics have said this could be a distraction as there are, in fact, more people moving into rental accommodation as a result of problems in the housing market, so it shouldn’t have too much of a bearing on Carphone’s broadband sales.
Dongles take off
Dongles sales are reaching 30,000 per week, and although there is some debate on whether it is ‘substitutional’ for fixed-line broadband or incremental, it nevertheless puts Carphone in a stronger position than its rivals as it can also capitalise on the dongle boom.
Carphone’s rivals in the broadband market are having wildly mixed fortunes. Virgin, ahead of Carphone in second place, has capitalised on its faster cable infrastructure to take advantage of the current appetite for video downloads and services, such as the BBC iPlayer.
Orange, meanwhile, has not only seen sales slow down but has been going backwards. Ongoing problems with customer services and the damage done to the brand saw its base fall by 31,000 customers in the first three months of the year.
Sky and O2 are the emerging powerhouses in fixed-line broadband. Sky hit one million customers in October after just 14 months. O2 has stepped up its game with a huge marketing push, focusing on customer service and faster speeds.
Dunstone’s positive spin on the downturn in margins was that the lower revenue growth would be offset by better margins.
‘If these trends continue, we expect lower revenue growth this year than previously indicated, compensated by improved margins,’ he said.
The laptop strategy appears to be an exciting move for Carphone, but, worryingly for Dunstone, it is being pulled by mobile broadband from his old friends at the mobile networks rather than his own fixed-line brands.