TalkTalk struggles to WalkWalk

Has TalkTalk got the WalkWalk to match? Investors get the chance to judge on Tuesday when the company unveils is first half-year figures since it was spun out of Carphone Warehouse. But we reckon the numbers will leave them disappointed.

Just last week the telecoms regulator, Ofcom, got tough with TalkTalk over billing former customers on whom it had set the debt collectors. The regulator has threatened fines of up to £139m (10 per cent of revenue) if TalkTalk fails to get its house in order quickly, and the damage to its reputation could not have come at a worse time.

The problem is that the UK's broadband market is relatively mature and increasingly commoditised. TalkTalk's main rivals, BT, Sky and Virgin Media, have been heavily marketing their multi-play packages (voice, broadband and TV) and even mobile operators, such as Telefonica's O2 and Everything Everywhere (the oddly-named combined UK businesses of Orange and T-Mobile), are pushing into TalkTalk's turf.

This makes TalkTalk's target to sign up maybe 180,000 new customers in 2010-11 look ambitious. Broker Execution Noble anticipates only 55,000. It's easy to understand the broker's pessimism, considering the challenges the company faces. First, customer acquisition and marketing costs have been rising sharply – up 25 per cent to £157m , according to indicative figures for the year to March 2010. Second, TalkTalk has typically been the cheapest broadband supplier on the block – a key selling point to many internet users – but it recently raised prices to match BT.

Second, it still doesn't have a TV service to match Sky, BT's Vision or Virgin's cable. It seems to be pinning its hopes on next autumn's expected launch of YouView, a collaboration between the BBC, ITV, Channel 4, TalkTalk, plus a host of others. It is effectively a FreeView box that's connected to the internet, allowing access to on-demand programming, such as BBC's iPlayer. With no controlling interest, plus any earned revenue having to be shared, YouView looks unlikely to add significant value to TalkTalk.

Third, TalkTalk may face huge subscriber losses in the short-term, particularly to Sky. Execution Noble estimates that around 40 per cent of TalkTalk's broadband users already buy Sky TV packages, and they can easily work out the savings to be made by switching to a Sky multi-play package.

True, raising prices tallies with the company's aim to increase average revenue per user – which was up 4.2 per cent in the year to March 2010 but still only £23.60 – thanks to Ofcom's ruling that BT must open its fast-fibre network to outsiders. So TalkTalk will be able to offer high-speed broadband, but fast-fibre won't be run out extensively until 2015 and even then access to the fibre will trim profit margins on super-fast connections. Therefore, TalkTalk may be forced back to cutting prices to defend its 23 per cent market share – especially as it no longer has opportunities to grow through acquisitions.

Speculation that Vodafone might make a bid has given the shares a prop recently, but that doesn't add up since the UK mobile network operator seems focused on asset disposals rather than buying.