Tim Gosling in Prague -

Spanish telecommunications giant Telefonica confirmed on October 15 that it is in talks over the sale of its Czech unit with local financial firm PPF Group. Those talks could prove tough, with the sector facing pressure from the authorities and the potential buyer known for driving a hard bargain.

Telefonica said in a filing with the Spanish stock market that it is discussing "strategic alternatives" regarding affiliate Telefonica Czech Republic (TCR) with PPF, owned by the Czech Republic's richest man, Petr Kellner. There is "nothing certain regarding whether an agreement will be reached, or final terms and conditions," the statement stressed.

The Spanish company, which has recently been juggling assets in order to reduce debt and compete in the ongoing consolidation in the European telecoms sector, holds 69.4% in the Czech operation. The remainder is in the hands of private and institutional investors. Speculation has been rife over the last couple of months that PPF was in talks over the stake.

TCR saw its shares close up 3.37% on the back of the news, adding to a 6.6% gain the previous day when reports emerged that the Spanish parent was preparing a sale. Unnamed sources told newswires that an agreement could be announced by early November.

PPF appears to be the only interested party in the subsidiary, with the price of the deal put at around €2.7bn. "PPF is famous for not overpaying for assets," say analysts at Erste bank. "If PPF were to buy TCR, we would not expect a considerable premium."

Under pressure

Two major issues facing the sector in the Czech Republic will keep a lid on any price. The telecom regulator has been pushing to break up the oligopoly of the three major players, and would be very unlikely to sanction any purchase of TCR by either Deutsche Telecom or Vodafone. According to estimates from Informa's WCIS, Deutsche Telecom leads the market with 5.8m subscribers, TCR is in second place with 5.1m, and Vodafone rounds out the list of incumbents with 3.3m customers.

The Czech Telecommunication Office (CTU) will be auctioning new frequencies on November 11, and has reserved spectrum blocks for two new operators. However, should PPF buy one of the incumbent players, it's unclear whether there would still be two potential new entrants to the market.

Kellner's group said in September it would not take part in the auction because the tender bans any new entrant from merging with another market participant for 15 years. Yet one of the two non-incumbent bidders registered for the auction was until very recently owned by the closely-held Czech investment group. PPF Mobile Services - set up to take part in an auction of the frequencies planned for earlier this year but subsequently postponed - was suddenly sold to CEO Tomas Budnik in September and renamed Revolution Mobile. There is speculation the move was sparked by PPF's interest in TCR, and was a manoeuvre designed to give it a back-up plan.

Meanwhile, the Social Democratic Party (CSSD) - which is odds on to lead the next government after the October 26 election - has said it plans to introduce a new tax on the telecom sector. The centre-left party said in late September that it is not yet sure which companies will be subject to its proposed new corporate tax bracket of 25-30% for the sector.

However, as analysts point out, its inconceivable that the three major players won't be the first to be hit. "A 30% tax rate would wipe out some 13.8% to 14.7% of TCR's net income in 2015- 17," Erste wrote at the time, "and would have some CZK 30/share impact on our target price."

Added together, these issues have VTB Capital forecasting significant equity value depreciation long-term at TCR. Erste analysts agree, and with the current share price of CZK330, implying a 38% premium to the company's peer group, they advise minorities cash out. TCR had given back around 0.8% of its gains on the Prague Stock Exchange in early trading on October 16.