Ladies and gentlemen, thank you for standing by and welcome to Telefonica's 16 Results Conference Call. Session. As a reminder, today's call is being recorded. I would now like to turn the call over to Mr. Pablo Eguiron.
Head of Investor Relations. Please go ahead, sir.
Good morning, and welcome to Telefonica conference call to discuss January September 2016 results. I'm Pablo Don, Head of Investor Relations. Before proceeding, let me mention the financial information contained in this document related to the 9 months of 2016 has been prepared under International Financial Reporting Standards as adopted by the European Union. And that the financial information is now deleted. This conference call webcast, including the Q And A, may contain forward looking statements and information relating to Telefonica Group, otherwise.
These statements may include financial or operating forecast and estimates based on assumptions or statements regarding plans, objectives and expectations that make reference to different matters. All forward looking statements of risk, uncertainties and contingencies, many of which are beyond the company's control and which make cows actual results plan objectives or expectations to differ materially from those expressed or implied. We encourage you to review our publicly available disclosure filled with the relevant securities market regulators. If you don't have a copy of the relevant press release and the slides, please contact Telefonica Investor Relations team in Madrid, by dialing the following telephone number 3 491428700. Now let me turn the call over to our Chairman and CEO, Jose Maria Alvarez.
Thank you, Pablo. Good morning to all of you. Today with me is Angel Villa, Chief Strategy And Finance Officer. During the Q And A session, you will have the opportunity to address us with any questions you may have. Our transformation process focus on quality differentiation data centric strategy is paying off.
The next step is to focus on growth acceleration. Operating cash flow growth is set to accelerate as CapEx to sales peak is left behind and synergies flow. In the 3rd quarter, telefonica achieved sustained progress. We are particularly pleased with the organic year on year growth acceleration in OIBDA, operating cash flow, reported EPS and free cash flow. ForEx is looking better nowadays, and this negative impact in headwinds is clearly easing.
As our Q3 reported OIBDA showed almost flat performance year on year versus minus 7.1% in the 2nd quarter. Leverage is on a downward part, thanks to the robust free cash flow generation improvement in the 3rd quarter, producing debt by EUR 2,600,000,000 in the last three months to just below EUR 50,000,000,000. Business sustainability is reflected in improved fundamentals across countries. In Spain, market value is undoubtedly increasing. Brazil, we are posting a stellar revolution with operating cash flow growing 38% organically versus July, September of last year.
Profitability in Espenamerica is returning to growth. Germany continues to expand margins and UK financials are improving sequentially, consistently outperforming the market. The leverage sustainability is also branded granted with the new financial objectives. The aim is to strengthen the balance sheet through 1st, attractive and market consistent shareholder remuneration, And second, a sustainable organic net debt reduction by growth with growing free cash flow. And third, portfolio optimization policy in order to reinforce our strategic positioning.
We are announcing new financial objectives in order to ensure sustainable remuneration, with a payout of around 50% with growing free cash flow The dividend will now amount to EUR 0.55 in 2016 and EUR 0.4 in 2017, split into 2 tranches in both cases. The first tranche of the 2016 dividend will be payable in the form of voluntary scrip dividend in the coming weeks of plus 0.20 per share in cash to be paid in the second quarter of 2017. In addition, And in order to complement our shareholder remuneration, we canceled 1.5% of treasury shares some weeks ago, leaving this position at 2.8%. The 2017 dividend will consist of fluid cash tranches of EUR 0.20 per share. With payments to be made in the second quarter of 2017 4th quarter of 2017 2nd quarter of 2018.
As a result, in the calendar year of 2016 payments will amount to 0.75 per share While in the calendar year 2017, they will be of per share. Our objective is to maintain a solid investment grade credit ratings through organically leverage. We have you to achieve leverage ratio compatible with a BBB Baa2 rating. As shown on Slide 3, and regarding the operating guidance, In an environment of longer handset life cycles, we expect service revenue to be the key metric going forward, and these are growing under guidance criteria at a very strong rate of 4.4%. OIBDA margin and CapEx to sales are on track to meet targets set at the beginning of the year.
To review Telefonica's financial snapshot, please move to Slide 4. Organic growth rates are very sound in the quarter as OIBDA accelerated to 3.1% year on year organically, and operating cash flow to 10.8 percent with stable service revenue growth from previous quarter and margins expanding 1 percentage points year on year. Up to September, organic revenue growth was 0.8% year on year. But this is much higher when you look at the service revenue, an OIBDA increase of 2.2% and 3.1%, respectively, while margin expanded 0.7 percentage points. On operating cash flow, growth reached almost 6% versus the last year figure.
The reported OIBDA decline of just 1% versus the third quarter of 2015, along with the very solid management of the P and L items below it, drove an EPS of EUR 0.19,44.8% higher than last year figure. On the other hand, reported year on year evolution continues affected by the negative Forex impact, although This has significantly eased in the 3rd quarter. As in previous quarter, this negative FX effect in the 1st 9 months is neutralized at free cash flow level as OIBDA drag in absolute terms is countered by lower payments of CapEx, working capital taxes, spectrum, interest and others. Let me mention that the LatAm FX impact on the year on year variation will diminish in the next quarter as the bulk of the Argentinian peso devaluation took place in the fourth quarter of 2015. Lastly, there was a strong sequential improvement in free cash flow to EUR 1,500,000,000, leading to surplus the EUR 2,300,000,000 in the 1st 9 months.
As seen in Slide 5, free cash flow generation continued to improve both sequentially and year on year. In the 3rd quarter, free cash flow totaled 1,000,000,000, up 800,000,000 quarter on quarter, with a stronger performance across the board, despite greater investments and spectrum payments. Excluding spectrum, free cash flow grew 30.8 percent year on year. In the 1st 9 months, free cash flow generation remained robust at 1,000,000,000, up 1,100,000,000 versus the same period of 2015 on improved operating cash flow and lower interest taxes and minority payments as well as spectrum. And despite higher working capital consumption is still impacted by seasonality.
We expect free cash flow to improve further in Q4, as operational performance improves and FX and other seasonal factors ease. We estimate full year free cash flow to exceed 1,000,000,000. Please move to slide number 6. In this slide, we show the different moving pieces affecting OIBDA evolution. On the one hand, organic growth remains and is stronger, as already mentioned.
On the other hand, FX negative impact is markedly improving. OIBDA year on year evolution improved sequentially more than EUR 250,000,000 as FX drag was reduced to minus four point four percentage points and organic contribution accelerated. I would like to stress that we expect this trend to continue in the fourth quarter on easier FX year on year comps. To review the quality of our revenues, Please turn to Slide 7. Organic service revenues have once again performed better than total revenues in almost all regions, increasing in the third quarter by 1.4% year on year.
Offsetting the continued downward trend enhance itself across the board. I am particularly pleased with the acceleration that we have seen in both Espand and Brazil this quarter, with Germany and the UK improving their trends too. The revenue mix reconfiguration continues to be supported by the growth in broadband connectivity and service on connectivity, representing 49% of total sales. 7 percentage points more than a year ago, capturing internet of things, cloud and data opportunities, opportunities among others. Slide 8 takes you through our accelerating OIDA expansion.
Organic OIBDA ramped up in the quarter, fundamentally due to our discipline cost management efforts derived from merger synergies and from the global efficiencies and simplification plan. These factors led to a 3.1% year on year boost, up 240 basis points versus the 2nd quarter. In the 1st 9 months, there was OIBDA growth across the board. It's also important to point out that our portfolio diversity is really helping to drive our OADA performance. On the back of what I have just mentioned, We also saw margin, which was 31%, 31.9% at group level, expanding year on year across all segments this quarter.
As you can see on Slide 9, our progress made at ODD level is driving a brilliant operating cash flow performance. Which grew 10.8% in the 3rd quarter. 930 basis points more than in the 2nd quarter benefiting from CapEx And OpEx Optimization. Profitability in Brazil and Spain contributed most to the operating cash flow performance over the 79% of CapEx was devoted to growth and transformation, as we continue to invest in our networks to provide and revolt connectivity for our customers. Please turn to Slide 10.
Once again, this quarter, we have successfully executed on our substantive high value strategy across our footprint. Focusing on network evolution and setting the stage for further top line growth. We have driven penetration levels, apps year on year, mainly smartphones, LTE, fiber and VDSL properly higher customer lifetime value. As such, we Average revenue per access expanded 2.6 percent versus January, September 2015 and churn was reduced. It is also worth highlighting the success of the strategies.
In Slide 11, let me highlight data trends and the significant upside opportunity we foresee ahead of us. As shown in the different charts, in recent years, we have been experiencing a sustained data traffic explosion with the third quarter of this year, year on year growth at 65 for mobile data and 45 for fixed This rocketing demand requires stronger networks. A good example of this is that in Spain, fiber accesses, already have 2 times higher data consumption over DSO. While in mobile broadband, a comparison with all the regions suggest that mobile broadband in Europe can double in the coming years, the conclusion is clear. Data growth is unstoppable.
Slide 12 shows the evolution of our data monetization metrics. We continue to develop innovative data proposition across the group. To benefit from the data explosion commented before. In mobile, it is worth mentioning our new more for more contract portfolio in Germany, new prepaid data plans for LatAm with a focus on integrated recurrent plans. As a result, the larger smartphone base and the higher data usage led by LTE customers, up two point five times year on year.
And its average consumption uplift of 63 percent translated into higher ARPUs and the acceleration of data revenue to 12% versus the third quarter of 2015. In terms of fixed data, a wider fiber customer base along with offering focused on bundling on bundling content, are driving a strong traffic expansion, especially around video. Turning to Slide 13. With the customer at the center, Telefonica is becoming a platform where innovation is offered to our customers and integrated in our internal processes. In addition, our increasing number of partnerships with industry leaders ring course of our global positioning.
Digital services revenues grew 10.7% year on year in the quarter, mainly driven by Video on the back of our investment to transform ourselves in this new digital year. I am pleased to highlight that Gartner has once again recognized our efforts in the managed machine to machine services space naming Telefonica as a leader for the 3rd year running. On Slide 14, TGR continued to expand ultra broadband networks and simplifying operation across its footprint. A result, 33,700,000 premises were passed with fiber already, of which 21.4 are fiber to the home And LP coverage increased 9 percentage point year on year to 58% with Europe, standing at 86%. Additionally, we continued to progress in network quality and user experience by building a smart WiFi home experience and a new set of platform to enhance high definition video.
On network innovation, I would like to highlight milestones such as the successful trial of 4g speed of up to 800 megabits per second and the extension of software optimization. Self organizing network optimization. A key step towards IT transformation in the quarter, includes continued advance in full stack, evolution of an online channel in Spain and system consolidation in Germany. Lastly, I am pleased just to highlight the strong advancing big data platforms with capacity 4 times higher year on year. Now I hand over to Plassel.
Thank you, Jose Maria. Slide 15 reviews our domestic business. We are pleased to present the The first and most notable was the acceleration in higher quality accesses growth, with ultra broadband and mobile contract net adds posting robust figures. In addition, churn stayed low across services proving the resilience of our customer base. On the other hand, DB results were impacted by the start of the football season and promotional activity in the market.
Our superior fiber to the home and LTE networks, along with top TV bundles, are clearly paying off and give us plenty of room to upsell in a market where commercial activity is more and more focused on quality. As such, solid loyalty and increasing convergent ARPU, 11% up year on year to translated into a positive evolution of financial results as you will see in the next slide. Service revenues continued their upward year on year trend despite tougher comps this quarter. Wholesale revenue, DB revenue declined and the year on year effect of the tariff update in May 2015 faded from May 2016. The top line increase in Consumer And wholesale segments accelerated sequentially and more than offset the IT seasonality in the business segment which is expected to revert which accommodated the higher net content costs and led OIBDA to increase 1.8% year on year ex non recurrence, with a margin expansion of 0.9 percentage points to 43.3 percent.
On the bottom of the slide, we would like to highlight how cash conversion is accelerating, with operating cash flow growing year on year for the second quarter in a row to 7.1% ex non recurrence. To review Telefonica Deutschland, please turn to Slide 17. Good trading momentum was maintained with strong contract net adds on the dynamism of partners. After the migration of contract customers to O2 premium brand, we enhanced the commercial offering with O2 Free launch in October. The market continued to be highly competitive but with early signs of easing pressure in the non premium segment.
Additionally, LTE continued to make progress with average data usage up 15% quarter on quarter. As a result, mobile data monetization continued to flow through to mobile service revenue and led to an improving quarter on quarter trend when excluding regulatory impacts. Incremental synergies, together with the lessening effect of transformation OpEx, translated in OIBDA acceleration in Q3 year on year to 3.6%. And OIBDA margin expansion of two percentage points to 24.7%. In the UK, as seen on Slide 18, we highlight continued traction in the contract segment.
Driven by market leading levels of churn in contract, thanks to our high customer satisfaction. LT is the main growth lever with a penetration of 45%, up 15 percentage points year on year. And with LTE traffic accounting for 67 percent of total data traffic, up 23 percentage points versus Q2 2015. CapEx continues to grow as we roll out LTE with outdoor coverage now at 93%. Mobile service revenues were up 1.1% excluding O2 refresh, reverting from minus 0 point 2 in the previous quarter, as customers choose higher tariff bundles and larger data bolt ons, as can be seen in the 8.2% average subscription per year per user year on year growth.
OIBDA returned to year on year growth of plus 1.6% on revenue flow and cost control. As a result, margin expanded one percentage point year on year to 27.3%. In Brazil, As shown in Slide 19, ARPU growth in key services is the base to our outstanding performance. In this sense, our positioning in value segments, which was reinforced once again in drove double digit ARPU growth in mobile, ultra broadband and pay TV services. In mobile, this performance was mainly leveraged on data consumption with an ongoing increase on 4G adoption and improvement on top ups in prepaid.
In fixed, It was driven by the successful cross selling execution and the gradual deployment Turning to Slide 20. Let me highlight the year on year growth acceleration across financial metrics in Q3, driving a very strong operating cash flow generation. This outstanding performance is built up on 3 main premises. First, the consistent service revenue growth acceleration well above the sector. Reaching 3% year on year in Q3, despite macro headwinds and lower handset sales.
2nd, the increased profitability above 33% this quarter. On efficiency measures, successful execution of operational synergies. Already securing 2 thirds of the best cases scenario with EUR 229,000,000 achieved as of September. And third, on our CapEx execution below initial expectations, with strong efforts on optimization, partly on the clear benefits of Big Data Intelligence at the core of our strategy. In Hispam, as seen on Slide 21, commercial activity is focused on value with accesses growing at strong rates despite more intense competition in the last quarters.
In the mobile business, 3rd quarter net adds improved to reach 1,100,000 new customers with contract accesses, up 6% year on year, reinforcing our leadership in the region. In fixed, our focus is on improving the quality of service, delivering higher broadband speeds to our customers and bundling new services. As a result, High speed broadband accesses grew by 14% and pay TV by 7% year on year. Please turn to Slide 22 to review quarterly, revenue growth accelerated to 4.1 percent year on year, with better contribution from Argentina and sustained positive performance from Colombia, resulting in OIBDA returning to growth of more than 6% with a sequential improvement expanded by 0.6 percentage points to pass the 30 percent threshold once against this quarter and revert negative year on year growth, posted up to June. Let me now move to the financial metrics starting on Slide 23.
In the third quarter, we have made a substantial reduction in our net debt figure, which was reduced by 2.6 1000000000 to just below 1,000,000,000. Almost 60% of such debt reduction is purely organic. Is explained by the growth 18. The remaining debt reduction is explained by financial measures, mainly the EUR 1,000,000,000 hybrid issue and the partial posal of our stake in China Unicom. As a result, our leverage ratio goes down to 3.5 times.
Point 15 times lower than in June. We expect further deleverage, thanks to the stronger free cash flow in the 4th quarter, as well as the cash preservation through the voluntary script dividend in November. On Slide 24, We continue to tap different markets at historical low rates, further strengthening our liquidity cushion, currently close to EUR 22,000,000,000 to cover coming years maturities. Our latest capital market transactions have also increased our average debt life above 6 years. Taking into consideration our recent bond issues launched in October.
The effective cost of interest payments in the last 12 months stood at 4.31%, thirty two basis points lower year on year. Europe reduces 72 basis points, thanks to debt refinancing at rates below average cost. Interest payments in LatAm increased the cost by 40 basis points, mainly due to higher payments in Argentine and Peso higher cost of Colombia due to interest rates and inflation increase and other non recurrent effects in Brazil. I will now hand back to Jose Maria to Ricardo.
Thank you, Angel. To conclude, please turn to Slide 25. Our strategy has been successfully executed. We are now back to growth, thanks to Transformation And Strategy has paid off. Our next step is to accelerate growth with the CapEx intensity peak already behind us and benefits from synergies.
As you can see from today's presentation, our proof points in the third quarter of this year are clear. OIBDA and operating cash flow ramp up organically year on year in this quarter. EPS and free cash flow also are posting very solid increases and leverage on a downward path. Earnings momentum is very positive as all business units are improving reflected in the year on year organic growth posted across the board, up to September, built on best in class assets, namely spectrum, networks and differential offers. New targets today has the objective to be solid investment grade credit rating company through 1st, an attractive shareholder remuneration and second, consistent organic deleverage linked with growing free cash flow.
Thank you very
We would kindly ask you to ask There will be short silence whilst questions are being registered. Our first question comes from Georgios Yerivayan Kono of Citi. Please go ahead.
Hi, thank you for taking the questions. I have 2. The first one is on the business revenues in Spain, and I appreciate you have already made a comment around the IT Services seasonality, but, even the connectivity revenues look to have, gone backwards a bit in the previous quarter, they were down a couple of percent and they were showing improvement. Now we're back to around negative 5 So I was wondering whether there is any specific drivers for the third quarter or you are seeing any renewed pressure on the business revenues more broadly. And also my second question is in the UK, part of the improvement from what I understand and maybe I'm getting this wrong from the presentation, comes from, roaming.
And the auto travel bolt ons. So I'm just wondering given that we are going to, you're not going to be able charge for you roaming, next summer, probably you're going to also have to pay for higher volumes, when customers travel. Are there any measures, you have in place to compensate the impact on EBITDA in the UK? And will that affect churn? Or do you think you can keep that low also.
Thanks.
Thanks for your question. In terms of your question on Spain, In fact, what we see is that recover in terms of ARPU expansion is a reality and is is happening namely on the residential market. You have several effects, out of the revenues in Spain this quarter. First, handset sales have declined 21% year on year, and that has been affected. Excluding that service revenue has grown 0.6.6% year on year in organic terms.
And it has been pushed by, namely Fusion and the new wholesale services. It is true that, the year on year comparison is going to be affecting us in terms of different factors. 1st, for price upgrades mean, our overall offer upgrades. We have 1 offer upgrade in July, this year. And therefore, you need also to take into consideration the year on year comparison with the previous year.
Secondly, and probably more importantly, on the business, on the business, on the B2B side of our revenues, we have some seasonality effects, namely on the IT part of our business. And that has been providing us with a weaker quarter in Q3 that we foresee to improve in the, And in terms of all the revenues are accelerating, they account for 90% of our service revenue. They have accelerated to 8% year on year. Those are revenues coming from wholesale. It is true that it's coming from the easier come.
We have not deal on our revenues since the third quarter of 2015. And MTRs and also some MVNO revenues. So overall, in Spain, we have market dynamics that are going to the right direction. We have some volatility coming out of some seasonality effects on the business, on the B2B business. We have the handset revenue, declining sharply.
This is across the board. But out of the consumer trends, what we can see is that, we are growing the consumer segment 1.3% in the 1st 9 months of this year. Which we see on revenues coming up 23%. So everything is evolving according to expectation, and you will have some seasonal effect, namely on the B2B business. In terms of your question around the UK, mobile service revenue have grown 1.1% year on year in order to exclude the refresh effect.
And therefore, we have returned to growth. And this is mainly due to higher subscription revenues, increased number of data bolt ons moving customer to higher tariff bundles and therefore, and out of bundle revenues. And those have been more than offsetting negative impacts coming from forming declines in MTR. So basically the effects coming of the O2 UK is due to improved trend in terms of higher subscription, subscription revenues. And therefore, we think they are recurrent, they are sound.
They are not just coming from one single effect. In terms of the roaming part, roaming revenue has been supported by on take up of what we the product called auto travel is a proposition. Approximately 50% of our customer roaming customers are in order to travel. And therefore, they have been giving customer confidence in terms of using data abroad So overall, we think that if you score both effects, the fact that the major part of the major driving part of the the service revenue growth is basically around the higher subscription, viral revenue revenues and that we have been able to stabilize rawmin revenues through this new tariff. We think that the revenue trends in the UK are sustainable.
Thank you, Hughes. Thank you, Hughes. Next question, please.
Our next comes from the line of Giovanni Montalte of UBS.
I don't know if you can help us understand better the divergence between the acceleration in tags for mobile contracts. And a bit of light net adds in terms of fixed broadband. And also if you can share a bit more comments with us about, de leveraging potential asset disposals.
Thanks for your question. Taking the first one on this divergence that you mentioned. You know that we have renewed our offering in Spain and therefore, we have included that second line in most of our Fusion package and therefore, that has been accelerating mobile net adds. We have we are right now under promotion, which effects are going to be flowing into the last quarter. And therefore, we have also some seasonal some promotional impact this quarter.
That as the promotion will be expiring in the next weeks, we'll, we'll, derive into we will see where the customers evolve after the promotion. But the previous experiences are telling us that they were those promotion at the end are resulting into ARPU accretion. So the divergence that you have seen are coming from these bolt ons, a lot of this bundling strategy of having a second mobile line. And we expect to see the impact of the promotion in the next weeks we are basically having more mobile, I don't see higher level packs with and therefore, we'll foster portability as some forward Fusion subscribers are also competitor subscribers. So that's why we have been willing to add the second line on the Fusion offer.
Hi, Giovanni. This is Angel regarding, deleveraging. You've seen that at the end of September, We stand below EUR 50,000,000,000 of debt. We have enjoyed or managed to get a very strong debt reduction in the quarter of 1,000,000,000. We remain committed to maintain a solid investment, great credit rating aiming at the ratios compatible with BBB AA2.
So, what we're doing is reiterating our commitment of solvency and liquidity, although reformulating this objective. With the decision that we took or the board took yesterday to reduce the dividend, we are moving to an objective of organically de leveraging since we're increasing the retained free cash flow in the business and generating cash in excess of our dividend payments that clearly will be directed towards improving our balance sheet. On top of this, all organic inorganic measures that, could be thought of remain available to us if anything derisked, but we would not want to entertain discussions on those potential measures. We will just execute them when they make a strategic sense and they create value.
I don't know if I can follow-up very quickly on the last point. Thanks so much for your question, but for your answer. But if I can follow-up very quickly, I mean, we have already discussed this last quarter. And I know you have taken actions in this line, but since there is a lot of focus from investor on your balance sheet, just to get a bit more visibility. I understand today we have more flexibility.
What's the biggest risk that you see in your cash flow projections to get you where you want to be in terms of the leverage what's the biggest risk in your view on this side? And where would you look for more flexibility if things do not go as expected.
Well, let me take that question, if I may. What we are doing right now is that we are betting we think deleveraging is the right decision. And we are betting our deleveraging strategy on organic free cash flow generation. During the last three months, we have been working on our business plan for the next 3 years. And what we see ahead of us is a growing business, namely in terms of free cash flow, but also in terms of revenue, ADA.
And with with a lower CapEx intensity. And that's a vision that is also sustained by the recent performance, namely quarter figure shows that we are moving into that direction. As a result, we are fully confident that we can rely on organic free cash flow generation to be the base for an organically base accelerated debt reduction. And this is why we think that the most valuable The most value creating option for our shareholders is to adapt our dividend policy in order to warranty that we do not depend on external factors of processes. To deleverage.
And remember that we have indicated that dividend payments is going to be below 50% of free cash flow generation. So we think that with the current business trend that we foresee, with the invest that we have been doing in the that we have everywhere around. And with the data traffics and data volumes that we are seeing ahead of us, and data monetization that we are starting to have and take a look at how data monetization is growing, excluding SMS. We think that we can be basing our deleveraging strategy on free cash flow generation. So that's what we are betting.
That's our view. And what we don't want to have is to be dependent on external factors to the leverage that are out of our control.
So let's say the 50% payout as a guidance is as important as the absolute amount of the DPS we need to look also at the 50% payout. That's important for us to understand.
We don't guide on, we don't guide on that. We are just indicating what we see ahead of us today, and that's what we are adding our policy, our dividend policy.
Thank you very much. Thank you.
Our next question comes from Matthew from the line of Matthew Robilliard of Barclays. Please go ahead.
Good morning. Thank you for taking the questions. If I can follow-up on the previous question, if I look at the absolute cash dividend that you will be effectively paying throughout the calendar 2017 and going forward, if I'm doing my math correctly, there's not a big change or there's no change almost no change at all compared to the previous policy. So I guess where you're gaining more flexibility is probably if you don't buy back shares as you've done in the past to kind of offset the scrip dividend. So is that, am I understanding it right?
That's where you're gaining more flexibility from? And the second question had to do with this Panu America. I mean, at the Q2, you had flagged, but in a number of countries, the competitive and macro environment had deteriorated and you were not expecting a quick recovery, which is basically what we got in Q3 apart maybe from Argentina and Colombia to some extent. Are you becoming a bit more constructive when you look ahead or you still think, this is going to be some tough quarters on the basis of competition and and macro environment? Thank you very much.
Hi, Matija. On the first one, if you compare the 0.75 to the 0.40 to which we are moving. That is 1.9,1.8, depends on the number of shares. 1,000,000,000 cash saving in your statement, you were assuming that we would have continued with the voluntary script dividend. Partially for the next year, which is something that was not communicated to the market.
We are executing now in November 0.35 voluntary script dividend range, but it was not approved that, that would be the same for the coming years. So If you look at calendar year 2017 compared to 0.75, going to 0.40, it's 1,000,000,000 saving. And that is something that, and it medically leads you to less or around 50% payout of the free cash flow that we're going to be generating in a year like 20 16. And we are, for the first time, committing to a free cash flow targeting in our presentation to show to you our commitment to cash flow generation. And as Jose Maria was saying, we are seeing growth ahead for the coming years.
Had we stick to the scrip dividend? We would have issuing shares, continuously. And at some point, we would have to remunerate those expanded number of shares in cash. So by stopping to do the scrip dividend, we are stabilizing the cash outflow and the number of shares. So there is a very significant saving for the coming years in this new remuneration policy.
Your second question on ispam. We are we have some markets in which we are concerned, namely Mexico, in which the market dynamics are not sound. They started to be a not sound in the Christmas campaign last year, and it has continued, although, moreover, this this 2016. It is true that we are seeing some signs or have more rational approach, not in pricing, but in terms of the time, duration of promotions and and bolt ons, but still very weak to bet on that recovery of the value of that market. We are growing in terms of customers and but the impact in revenues and the impact of OIBDA also as the asymmetry in terms of interconnection is being faded away because interconnection rates are dropping.
So it's not going to be an easier year and still too soon to say that we are seeing any signs of recovery of the Mexican market. So we think that the the Mexican market is going to stay complex for a while. The other market that you were mentioning Peru, we are we have a very sound commercial position there. And what we are doing there is fighting for the value customers. There is competition being intensified namely on the low end, but also on the high end of the market.
But in terms of contract and in terms of pay TV, we are doing pretty well. It is true that we have some impacts in this quarter coming, namely in Peru for, from, some regulatory effects in terms of interconnection NTR declines. And also in the fixed line or in the fixed line business coming from less hardware revenues. But it is also true that we are defending very well or market share and the values and the value market share, the value customers. So we think that in Peru, market dynamics will get will be back to normal at some point.
And in the meantime, we are effectively defending our position. And in the low end, in that and by the way, you have 2 other countries, which has been turning around. The positive way, which are Argentina and Colombia, which are showing good signs of recovery in NEMV in Argentina due to to tariff repositioning. And in Colombia, we are starting to get more traction on prepaid. So we are seeing a different mix of performance in Latin America.
Some of them, namely Mexico, being concerning but Mexico waits leader on our overall revenues, while the other markets, which are waiting more like Peru, Argentina or Colombia, are doing better. I am we are concerned in terms of the low end of the market, namely on prepaid or what evolution prepaid in Latin America has not in the last quarters, but we have learned how to proceed and then in Colombia. We have been testing in Colombia and we'll be expanding new target portfolio across the board to improve competitive position in prepaid. And we are starting to see better trends. And by the way, efficiency targets of OpEx are we are paying off.
We are OpEx is growing below inflation everywhere. So we have we have, better impression than what you have in terms of Latin American prospects.
Yes. And to compliment my previews, my previous answer, you should not expect us to carry any share buybacks. In any meaningful way.
Our next question comes from the line of Mandeep Singh of Redburn. Please go ahead.
So the first question I really had was on the Spanish business development. You've given a little bit of color on the revenue trends. Can you sort of help us understand how we should expect OIBDA to evolve going forward. Clearly, you've only booked a sort of partial quarter of increased content costs. So should we expect a negative development in Q4 from a higher content cost applied for the full quarter?
And how does that sort of work with the revenue dynamic sort of offset that. So just sort of maybe a little bit of a forward looking indication on how we could expect the revenue in OIBDA dynamic to evolve in the quarter? Secondly, on, I'm sorry to come back to the balance sheet, but it clearly is a big focus for investors. We noticed that the CEO of O2 UK said the IPO is off this year. Do you feel that the organic sort of deleveraging, let's say it's 1,000,000,000 because you generate 1,000,000,000 you think that's enough to keep the rating agencies away?
And have you had a constructive discussion with them based on what you've announced today?
Thanks for your question. In terms of Spanish business OIBDA, we have already been, you mentioned, we have already had in the 3rd quarter impact of 2 impacts, so to say, on a quarter to quarter comparison. The first impact was the Champions League Impact Goods. We didn't have last year, and we started to have, from the first quarter of this year. And the second one, as you were mentioning, was the new prices of Veraliga rights.
And they have started to flow during this quarter, as well as less wholesale revenues coming from the packages that we don't own. And therefore, has been affecting our revenues as well. So you have in the third quarter a good impact of what I would proof point of what the new kind of revenue structure and no idea structure. 2016 margin at the end of the year, we think will be around 40% although it will be probably lower in the 4th quarter due to a higher net content cost that you were mentioning, but we have also initiatives to reduce OIBDA tension Some of them are already flowing and will be progressively flowing in the light year, personal reduction, front of this incentive voluntary incentive retirement program. And also, we are seeing some better mix in terms of value and tariff up.
So all the efficiency like the distribution channel restructuring that we are currently implementing will also help. So at the end of this year, we think we might be we should be around above 40% margin, and we think that's a sustainable projection.
Regarding ratings agencies, of course, we cannot speak for the ratings agencies. Of course, we have frequent contact with them. And today's announcement is not a surprise. Those conversations are confidential. But what is obvious is that the revised dividend policy improves our credit quality.
It's a step in the right direction towards cash preservation. Since more cash is retained in the business. In addition, we are seeing a very positive evolution of our free cash flow and a growing end going forward. So this will allow us to deleverage organically in a consistent, in a consistent way. On top of this, any other measures that you could think about remain available?
And if anything, they would be derisk. So today, we had a better credit than we were yesterday.
If I
could. I would like to compliment on on what has been said. What we are doing means that we are fully confident that we can rely again on organic growing free cash flow generation to reduce leverage. It also means that we do not need anymore to do any divestment in order to meet our deleveraging goals. It means that from now on, any such process will be run exclusively according on its strategic and value creating merit And it means as well that we are no longer under any rush to proceed with any transaction.
Because by doing what we are doing today, we think that we should not be dependent anymore or any longer on external factors to deleverage.
Thank you, Mandeep. Next question, please.
Our next question comes from the line of James Mackenzie of Fidenti. Please go ahead.
Hi, thanks for taking the question. Just a quick question on Spanish cash flow. Could you give us an idea of of what the change in Advanced Corporation tax may mean for, for the cash flow in the 4th quarter. And does it affect the guidance that you gave in the first half conference call where I think you sort of you gave quite a lot of guidance on interest costs and tax. Thanks very much.
We have been managing the situation on change on the advanced payments that has been put in place by the Spanish government so that you can still rely on our guidance of less than 20 percent cash tax rate for full year 2016.
Okay. And I think you talked about at the first half conference call, you talked about, low teens decline in in financing and tax rates. Is that still applicable?
Our cost of debt now stands at 4.10 percent This is a blend of 3.21 in Europe, which continues to go down. And in LatAm, currencies, 9.25 percent. The trend that we see in our financing in European currencies is clearly downward as you could see indo issuances we did a couple of weeks ago, both in the 4 year trends and the 15 year trends, which were below the the 15 year trench was below the 2% and the 4 year trench was at 0.3%. So you should expect us to continue on that declining trend in the current macroeconomic environment.
Our next question comes from the line of Keval Hirona of Deutsche Bank. Please go ahead.
Thank you. I've got two questions and both related to Spain, please. Firstly, you lost 44,000 TV customers in Spain in Q3. I understand this is a quarter when many customers churn, but that level of loss is still almost four times worse than the level last year. Can you talk a little bit more around the dynamics in the TV market versus 1 year ago?
And then secondly, going back to the revenue profile in Spain, which you have given some color on, I think on the Q2 call, you said that the most recent price rise in July should help the Q3 and the Q4 trends. Now looking at the Fusion ARPU, the absolute percent growth is actually a little bit worse than Q2. As these promotions roll off, should we therefore expect an acceleration in growth of Fusion ARPU from Q4?
Thanks for your questions. Taking the first one on the on the TV net adds in Spain. They have been impacted by the price update that was included in the base impacts of the Revamp Movistar Fusion Plus in August as well as the OneMain on the One Pay, on the pure One Play TV in September. Which was upgraded from EUR 22,000,000 to EUR 25,000,000. There is also, as you were mentioning, seasonality and more promotional activity in the market that has also been it.
And we have also included there the disconnection coming from the former satellite platform. So that we foresee that process being almost over. So as a result, those are the the major impact that we have been having in this quarter. That churn is slightly up 1.8% versus 1.6% in the second quarter. As this quarter has been impacted by the full all of promos in the market year on year.
The churn is reduced almost 1 percentage point. As last year, we have the bulk of the disconnection DTS customers. So a mix of effects. Once we are and then taking a just second question, I'm trying to combine it with with the ARPU of Fusion. ARPU in this of Fusion is 881.8% and it has been growing, mainly from the tariff increases that we have been doing, but also on the higher value mix, we are moving customers upwards.
And that's why today in this quarter, in this third quarter, we have been also impacted by our own promo in which we are trying to push customers from the low end part of the Fusion Leggers. Into the upper by giving a taste of the higher high end products. We should have a better view in the fourth quarter of both of those 2 trends. We are, slightly optimistic, but too soon to say as we will have the first customer stepping out of the in the next in the next weeks. So probably at the end of the year, we'll have a better view.
Let me just highlight one thing, and is that we are the Fusion customers are up 7.1% year on year, the number of customers. And out of that and Fusion revenues are up 23% year on year. So we are much more focused and we are focused on Fusion as well, but we are focus on the non Fusion customers, and that's what we are dragging. And we are also focused on the business segment in which we need to make sure that will recover the dynamics of the second quarter. So the overall impact in revenues have different colors, different flavors in Spain.
That's very clear. Thank you.
Thank you, Kevin. Next question, please.
Our next question comes from the line of Alberto Daniel of Goldman Sachs. Please go ahead.
Hi, good afternoon. Just a very quick follow-up on on that. So can you elaborate a bit on your decision to move to a more generic leverage guidance of maintaining the investment grade rating on whether you have a leverage ratio in mind for that and whether that change results from the previous target maybe being dependent on inorganic delevering or is it just the case of the stronger organic free cash flow generation that you highlighted a couple of times? Thanks.
Yes. So we are moving the articulation of our target to a different way, but we want to reaffirm our commitment to having a solid investment grade, investment grade credit rating. This is not changed, but we are no longer constricting ourselves reach a specific leverage target on a specific date, because this was creating, an environment which was not conductive to potentially taking the right decisions to create value and the right strategic decisions for the with the cash flow retention that we're going to do, we can organically reach a leverage ratio of 2.5 times net debt to APA in the medium term. This is, thanks to the cash preservation, the growing the growth in the free cash flow that we're seeing for the business. But on top of this, on top of this, any other measures that you could have thought of as potential executing, all those remain available as well to us.
But we're going to focus on the leverage on organic deleverage because we think that it's a sustainable way to go about this and not be dependent on factors which are beyond our control.
That's very clear. Thanks.
Thank you, Alberto. Next question please.
Our next question comes from the line of David Wright of Merrill Lynch. Please go ahead.
Hello guys. Yeah, just a quick question. I noticed there was no guidance reiteration in the dividend statement or your own report commentary, Jose Maria. And I think every other quarter, you very clearly do that. Can you confirm the full year revenue guidance over 4%.
It
does still look a little difficult
to achieve given the 9 months of 3%. And I think that Q3 was one point 4% service revenue growth. So can you fully confirm that target, please?
Thanks for your question. As I have been saying during the presentation, we are focusing now on service revenue because the handset revenue decline is, is general, is out of our control. And therefore, we are focusing on service revenue growth and this is, this is growing about 4% on the guidance that we gave above 4%
I see. So the top line revenue growth is no longer expected to be over 4. Is that correct?
We will see. Again, it will depend on the handset evolution at the last quarter. But again, service revenue, which is the driving force behind the whole P and L is growing about 4%.
Okay. Thank you.
Thank you.
Next question please.
Our next question comes from Luis Prauta of Morgan Stanley. Please go ahead.
Yes, thank you. Two questions, please. First is on Spain, a follow-up on the revenue trends. And with some slowdown in the service revenues growing up 0.6% this quarter, it was 1% in the first half. I understand the lower wholesale revenues, but what I would like to get some more color is on the dynamics from the new tariffs put in place, including the football, and whether the dynamics there are more or less in line with your expectations?
And more specifically, what I'm trying to understand is whether those cash customers that were in the that were paying for all football before and that they are now in the 30 megabits per second product. And therefore, not getting all
the football
content, whether you see a strong movement of upselling or trading up to the 300 megabits per second to get all the football and driving higher ARPU boosting revenues in the next few quarters. So those dynamics in terms of upselling there would be great to know. And secondly, on CapEx, you are mentioned in CapEx, all the time in the presentation as part of the cash flow growth next few years. We know that this year guidance is 17% on constant exchange rate next year. 15%, but you are for the 9 months in 15%.
You were mentioning some phasing in the 3rd quarter. Do you think that you will still be 17% in 2016 2015 next year or there's any room for lower CapEx guidance coming? Thank you.
Thanks for your question, Riz. In fact, several other comments. You know that on the residential namely Fusion namely TV and namely Football, I promise We are combining promotions with upselling strategies in order to try to add new customers while upselling the current subscribers. And there's in this country where you should framework the promise on the premium X strategy pack that we have launched, which we are trying to we aim to encourage further subscriptions and increase in the TV mix after the promotional periods are over by letting customers to try the new contents. During the summer of 2016, we were made available to all Fusion Plus customers.
The premium next attack for 2 months. We have 400,000 subscribers adding to that promo at the 15th October. The impact in Q3 revenues negative, although not much significant, there were some upgrades and downwards and also some new customers. And it's still too soon to see subscriber behavior after promo because as I was telling you, it was just 2 months, and we will see. So I think that we will be very off judging out of this effect of those promo in the fourth quarter, but as I was saying before, I am a slightly We are slightly optimistic with the first readings, even though it's too soon to say.
Remember that we have a record Ultra broadbandeda 159,300 megabit per second. And this is the driving higher value customer. So we are trying to push revenues up by doing this kind of promotion and by deploying the new products in terms of the attribute of speed and capacity. And we think it's paying off In Spain, the impact in this quarter is not mainly derived after that because in fact, as I was saying before, resident consumer revenues were up 1.3%. The major impact in revenues this quarter is coming from business, which is, was was this down.
And again, it has to do with some seasonal effects, namely on the IT contract part. And we are addressing that for the 4th quarter. And then I will also like to say something on the impact of all those impacts in Spain. I also say in the previous conference call that Once included everything, the extra content cost, we were aiming at preserving the margins because we We thought we will be able to absorb the extra content costs with efficiency measures. And it's being done and it will be done in the fourth quarter as well.
And therefore, we are confident that we can preserve this level of margins, which are important for us because it justifies strategy of betting on those expensive content. So the effort that we are doing in efficiency to absorb those content rights is very significant. And that's why margin is evolving positively. And then on CapEx going forward, we are not guiding on that yet. We will wait for the final year, but what we see ahead of us, as I was mentioning all across the conference call is lower CapEx intensity coming ahead of us because of several factors.
I mean, we have deployed during the last 4 years, for example, in Spain, an amazing effort in terms of fiber coverage. You have more fiber in Spain today that in the sum of the UK, Germany, France and Italy together. And therefore, this effort is done once in a lifetime. So combined with the fact that we are going to be simplifying radically our approach to legacy networks. And also derived from the fact that we are using big data in order to do a smart deployment of CapEx.
And we have learned around, along the Brazil experience, allow us to think that we can do more or the same with less CapEx intensity going forward.
Next question, please.
Our next question comes from James Radzer of New Street Research. Please go ahead.
Yes, thank you very much indeed. Two questions, please. The first one was just regarding Hispina America where you've put up very strong EBITDA performance plus 6%. I mean, the text in the release does seem to talk quite a bit about lower commercial costs, helping to support that in particular in Argentina, Colombia and Peru. So it'd just be helpful to get a steer on how sustainable that 6% growth is.
I mean, do you think commercial in those markets now can be structurally lower, or this is just a timing effect. And the second question I had also in Latin America is regarding Mexico. I was wondering if you could just talk a little bit more about how you see your longer term strategic dynamic in that market, you mentioned the competitive dynamics weren't sound. And I think you've spent about 1,000,000 in CapEx year to date, I think AT and T is currently spending about $2,000,000,000 per annum. I mean, is this a market you could consider exiting in due course, you're interested to understand, what you see as the next steps forward in Mexico?
Well, thanks for your questions. In terms of the first one as I was same before, the commercial cost evolution in Latin America has different flavors in different countries. We are being more aggressive in places like Peru. And we are also being affected in places like ago, but we have seen better trends in other places like Stuart mentioned in Colombia or Argentina. So I think that going forward, what you should expect from us is to be betting on the high end value customer and therefore, betting on those and also launching a better targeted prepaid tariffs all across the board with contained commercial costs.
So the overall trends that you are seeing in this quarter in this band, we see them stable. So we don't we are not projecting any major impact. And remember that we are we have been able to grow all costs in Latin America below inflation, which is a significant proof point of the simplification effort that we are doing across the board. And in the case of Mexico, our decision is going to be depending on how the market is going to be evolving. We do not see this market as a rational market.
We see that We think that something needs to change. Again, our exposure to Mexico is limited and there are some factors, that might change the market dynamics in the coming weeks. But Mexico is a pending issue for us in terms of turning around the business or transforming our position in the market. So I cannot comment further because we are working on different alternatives. But what it is clear is that we are not satisfied with the Mexican situation in our case.
And you mentioned some other factors up in the market in the next are these things within your control or other market effects looking out for?
I was referring some situations like the red compared to the shared network being auctioned by the government, the 700 Megahertz some, some players that might be less aggressive in the next, in the risk factors beyond the world control. On our case, we are taking our own decision addressing operationally and our situation for 2017. In order to be to have a much more targeted and approach into the market. So we are building our own case, and we think we can improve our own situation But whether that's going to be enough to turn around the value in the whole market, we are not that relevant in
that market. Okay. Many thanks.
Thank you, James. Next question please.
Our next question comes from the line of Julio Arciniegas of RBC. Please go ahead.
Two questions. One regarding UK, the UK market, it looks like it will become a little bit more active in of fixed mobile convergence. I know that it's not actively price promoted, but would you consider a change of strategy or how would you address if the market UK market drives to a more active fixed mall conversions like Spain? And my second question is regarding that 2.5 midterm leverage target that you think that you can accomplish are the rating agencies happy with this sort of leverage?
Okay. Thanks for your question. Let me get back to something that I wanted to emphasize on some previous comments. It seems that there is some confusion around the market, I mean, reading off our words in the margins. Spain.
We expect, I need to I want to clarify that we expect margins in the fourth quarter of this year in Spain to be around 4% 40%. So to be comparable and sustainable with the current levels of margins. I mean, so I want to stress that what we foresee ahead of us in the fourth quarter of Spain is similar levels of margin ones that we have been seeing so far. Stepping now directly into the your question around the UK convergence. We have several factors that allow us to think that we are we're protected and we have optionality if that was to be the case.
We do not see convergence again, being demand driven so far. And we do not see any of the players of the market being incentivized to do aggressive discount on the bundling. And therefore, we do not see a massive shift in the strategy in the UK. But having said that, what it is crystal clear is that we have the best mobile asset in the UK, with the lowest churn, the best quality And as a result, whatever could happen on that market, we have a very valuable asset. We think that there is room in the current market structure for a pure mobile leading brand player.
And the good point of that is that I was mentioning before, we are doing well in terms of our subtraction revenues. And in terms of customers satisfaction index and historically lower levels of churn. So I think that customers are currently interested in acquiring best in class value services versus, aqua doable service from the same provider. And we do not see aggressive discounts being promoted So that's why we think that we are in a good situation in the UK with, again, the best mobile asset and in a market that is not looking like going to be significantly changed in the short term.
Regarding the second question, we what I did not set a target of 2.5 times net debt to EBITDA in the medium term. Want to be clear about that. What we are committing is to maintain a solid investment grade rating aiming at ratios that are compatible with the triple in an answer to the previous question, I wanted to say that since we are in the new dividend scenario and in the free cash flow growing scenario that we are we expect to substantially accelerate net debt reduction organically And this will take us organically towards 2.5 times net debt to EBITDA in the medium term. But on top of this, I also said, we can have financial measures that we've had in the past. And on top of this, we can also have other inorganic deleveraging measures, but we will not trust we will not be rushed into those in a way that we, maybe let to destroy value for our shareholders.
But organically, we're going to move very much into the direction of the target, but on top of the organic deleveraging All other options are available. Thank you. Thank you. Thank you, Julian.
We have time for just one final question. Thank you.
Our final question comes from the line of Fabienne Lara of JB Capital Markets. Please go ahead.
Hi, guys. Thanks for taking my questions. So the first one is with regards to Brazil. There's been some a lot of news flow with regards to Oi and how, there is likely to be some type of restructuring there, not only from its financial point of view, but the could be up for sale. I know this is a recurring topic, but there's been news flow that has appeared in a number of sources stating that Telefonica's management in Brazil will be that considering your new free cash flow, objectives and deleveraging, would you still consider to be looking at these assets and if so, how would you contemplate these types of acquisitions?
Would be the first question. And second, with regards to, content to his panamerica, could you let us know whether you within these objectives are contemplating aside from Mexico, any other, TJEC asset reviews. So without specifying names, if you are considering any other possibilities of exits in or changing your footprint, etcetera, etcetera. Thank you.
Regarding potential M and A in Brazil, well, one can never say never, but are clearly very focused on organic growth. And regarding Mexico, I think that Jose Maria already responded that we can be pragmatic in a situation of an unstable market as we see it.
At this time, no further questions will be taken.
Well, thank you very much for your participation. And we certainly do hope that we have provided some useful insights for you. Should you still have further questions, we kindly ask you to contact our investor relations department. Good morning, and thank you very much.
Telefonica's January, September 2016 Results Conference Call is over. You may now disconnect your line.