Ericsson scouts for mergers for lower margin businesses

By Andres González and Sophie Sassard

MADRID/LONDON (Reuters) - Telecom equipment maker Ericsson is in talks to merge its Spanish fiber services arm Abentel with a local firm and people familiar with the new CEO's plans say he is scouting for more merger deals to cut costs and rebuild the group's profits.

Borje Ekholm, who took up his CEO role in January, is under pressure by activist investor Cevian to accelerate cost-cutting after Ericsson's three consecutive quarters in the red that have pushed its share price down 15 percent since January.

The Swedish company is concentrating on reducing its exposure to maintenance and roll-out services which require relatively highly paid staff.

Abentel, which provides fiber-related services, was bought by Ericsson just 15 months ago and Spanish tech engineering services provider Dominion said on Wednesday it was in preliminary merger talks.

Network roll-out and maintenance services are labour-intensive, low-margin business that have traditionally been outsourced by telecom operators to companies like Ericsson, Nokia and Huawei. Ericsson is reviewing whether to sell or try to improve profits at these businesses, catching up with Nokia which made a similar move a few years ago.

"Ericsson needs to raise its margins and the idea is to merge Abentel and other network maintenance units with regional players to deconsolidate the workforce and costs stemming from these businesses," said a source familiar with the plans.

Ericsson has yet to convince analysts it can hit its target to double 2016 margins beyond 2018.

The company declined to comment on Wednesday.

Ericsson said during its second quarter earnings that it had identified 42 services contracts, without naming them, with 2016 sales of SEK 7 billion ($861 million) which it will either exit, renegotiate or transform. To date, the company said it has already recast nine of these contracts resulting in an annualized profit improvement of about SEK 140 million ($17 million) going forward. Managed Services contributed about 13 percent of Ericsson's total revenue in 2016.

JOB CUTS

Ekholm has quietly ended the company's diversification push to serve non-telecom clients as he intends to refocus the business on core mobile network infrastructure. [nL8N1IY1RJ]

The company, backed by prominent Wallenberg family-backed Investor AB and Industrivarden, faces mounting competition from China's Huawei and Finland's Nokia as well as weak emerging markets and falling spending by telecoms operators with demand for next-generation 5G technology still years away.

While the move to exit loss-making contracts is widely seen as positive by investors who have long been waiting to see material cost-cutting, some analysts such as Credit Suisse and independent firm Arete Research have expressed concerns that slashing large business areas could dent revenue and destabilise the business.

Credit Suisse recently downgraded the gear maker to underperform on the basis that management's mid-term margins target were too optimistic and that the risks of divesting loss-making assets are "not fully appreciated". The broker also cut the company's 2018 revenue estimate by 4 percent.

Ericsson bought Abentel for about 20-30 million euros as part of a push to grow in fiber fixed line services and yield increasing bandwidth requirements driven by video services. It is now hoping to make significant savings by gradually offloading its high-pay workforce.

Ericsson also lost a managed services contract in Italy with Wind and 3 Italia at the end of last year and is currently reviewing strategic options for its operations there, according to another source close to Ericsson. The company has announced 400 job losses in Italy but the number could increase in the absense of a strategic tie-up, said the source.

Ericsson employs about 3,200 people in Spain and is expected to cut about 30 percent of its staff in its Networks division and areas other than Managed Services. But if it fails to merge Abentel, its 550 employees could be at risk, potentially pushing higher the total number of layoffs, said local sources familiar with the plan.

Earlier this year, the Swedish press reported that Ericsson could shed about 25,000 employees outside Sweden as part of its cost-cutting drive. Ericsson didn't confirm or deny the report. Sources close to the company have since told Reuters that the final number was likely to be even higher. Ericsson employs about 109,000 people globally.

($1 = 8.1267 Swedish crowns)

(Additional reporting by Olof Swahnberg and Helena Soderpalm in Stockholm, editing by Louise Heavens and Elaine Hardcastle)