Merlin Properties and Telefónica emerge among Spanish value picks for top European fund managers

Spanish equities occupy a relatively modest place in the portfolios of Europe’s value-oriented investment funds. Yet two of the country’s best-known listed companies are attracting attention from some highly rated active managers: Merlin Properties and Telefónica.

According to Morningstar data, Spanish stocks account for only around 5% of the assets held by funds in the Europe Large-Cap Value Equity category, reflecting the comparatively limited weight of Spain’s stock market within the broader European investment universe.

However, an analysis of portfolios belonging to selected highly rated active funds shows recent purchases of both companies.

The screening covered actively managed European large-cap value funds with at least one share class carrying a Morningstar Medalist Rating of Gold, Silver or Bronze and portfolios containing no more than 100 stocks. Six fund portfolios met those criteria.

Among their recent Spanish investments, two names emerged: real-estate group Merlin Properties, increasingly transforming itself into a major data-centre infrastructure player, and telecommunications giant Telefónica, which is undertaking a significant strategic simplification.

Morningstar considers both shares undervalued, estimating a discount of approximately 22% for Merlin Properties and 13% for Telefónica.

The two investment cases are very different, but both reflect transformations underway inside corporate Spain.

Merlin Properties moves beyond traditional real estate

Merlin Properties has traditionally been associated with offices, logistics facilities and shopping centres.

Its future, however, is increasingly tied to something considerably more technological: data centres.

Morningstar sees Merlin shares as approximately 22% undervalued, while one of the selected fund managers recently increased exposure to the company.

The underlying investment thesis rests heavily on Merlin’s ambitious expansion into digital infrastructure.

The Spanish real-estate group intends data centres to become its principal source of rental income, with the segment projected to generate around 65% of gross rental income by 2032.

That would represent a profound transformation of the business.

Rather than relying primarily on conventional commercial property, Merlin is positioning itself as an infrastructure landlord for the rapidly expanding cloud-computing and artificial-intelligence economy.

Iberia wants a place in Europe’s data-centre race

Spain and Portugal possess several characteristics that could make the Iberian Peninsula increasingly attractive for data-centre investment.

Among them are the availability of land and renewable energy, together with international subsea cable connections linking Europe with other regions.

Those advantages matter because artificial intelligence is dramatically increasing demand for computing capacity.

The largest data centres require enormous amounts of electricity, suitable land, reliable connectivity and sophisticated cooling systems. As traditional European hubs encounter constraints around grid access, power availability and development space, alternative locations can become more competitive.

Merlin is attempting to capitalise on that shift.

Its data-centre strategy is organised around a series of increasingly large development phases.

From 64 MW to a potential multi-gigawatt platform

The scale of Merlin’s ambitions is substantial.

Phase I, representing 64 megawatts of capacity, is already fully leased.

Phase II, with approximately 254 MW, is under development and has already secured what Morningstar describes as the largest data-centre lease ever signed in Iberia.

The company has also launched Phase III, adding another 412 MW as it seeks to capture the surge in demand associated with artificial intelligence and cloud computing.

But the most ambitious element is Phase IV.

Merlin has secured the land and electricity required for a potential 1.4-gigawatt project, although developing the full programme would require around €15 billion in additional investment. Construction of the first 200 MW has already begun.

Beyond that, the group has identified a further 3 GW pipeline, divided between shorter-term projects of approximately 1.1 GW and longer-term opportunities totalling around 1.9 GW.

If executed successfully, this strategy would turn Merlin into something substantially different from a conventional Spanish property company.

Hyperscalers become long-term tenants

Merlin’s business model also differs from retail data-centre operators that lease small amounts of capacity to numerous customers.

Instead, it targets hyperscalers and so-called neocloud companies, leasing entire buildings or data halls through contracts that can extend for more than ten years.

Merlin provides the physical infrastructure, electricity and critical cooling systems, while customers install their own computing hardware.

The company also retains responsibility for mechanical and electrical maintenance.

This model potentially offers one of the qualities traditionally sought by property investors: long-term contracted rental income.

The difference is that the tenants are now part of the rapidly growing digital economy.

Traditional real estate remains part of Merlin

The data-centre push does not mean Merlin is abandoning its established portfolio.

In offices, the company prioritises prime properties while converting some non-core assets to residential uses.

Its logistics portfolio benefits from urban locations and tenants that include major logistics and retail companies such as Inditex and XPO.

In retail, the strategy focuses primarily on flagship and leisure-oriented shopping centres.

Data centres, however, increasingly provide the growth component that could reshape the company’s valuation over the coming decade.

The opportunity also introduces significant execution risk.

Building gigawatts of data-centre capacity requires enormous amounts of capital and electricity, while projects depend on permits, grid availability and sustained customer demand.

The approximately €15 billion requirement associated with Phase IV alone illustrates the financing challenge ahead.

Telefónica offers a very different value story

The second Spanish company appearing among recent purchases by the selected managers is Telefónica.

Morningstar estimates that the telecommunications group trades approximately 13% below its assessed fair value.

Unlike Merlin, Telefónica’s investment case is not primarily based on aggressive expansion.

It is based on simplification, asset disposals, debt reduction and concentration on fewer strategic markets.

During the 1990s and 2000s, Telefónica built one of the most international corporate footprints in Spain, expanding across Europe and Latin America.

The group has since reversed much of that strategy.

Its current priority is increasingly concentrated around Spain, the United Kingdom, Germany and Brazil.

Telefónica continues its retreat from Latin America

One of the most important components of Telefónica’s transformation is its withdrawal from much of Latin America.

Brazil remains a strategic market, but the company has been divesting or restructuring operations elsewhere in the region.

The shift represents a major break with Telefónica’s historical identity.

For decades, Latin America was fundamental to the Spanish group’s international expansion. But macroeconomic volatility, currency depreciation and weak returns on invested capital repeatedly reduced the attractiveness of several regional operations.

Morningstar does not expect that structural problem to disappear.

Even when businesses grow in local-currency terms, currency depreciation can erase much of that expansion when earnings are translated back into euros.

Telefónica is therefore using asset sales as part of a wider effort to simplify the group and reduce debt.

Infrastructure sales are also part of the strategy

The restructuring extends beyond geography.

Telefónica has also sold infrastructure assets, including towers and non-core fibre networks, seeking to release capital from businesses that management no longer considers essential to its core strategy.

The proceeds can help reduce leverage and concentrate investment in its principal telecommunications markets.

The strategy reflects a wider trend across the European telecom sector.

Building mobile and fibre networks requires enormous capital expenditure, while intense competition often limits the returns operators can earn from those investments.

Selling selected infrastructure assets allows telecom groups to monetise parts of their networks while preserving commercial access through long-term agreements.

Marc Murtra pushes the case for European consolidation

Since becoming chief executive in 2025, Marc Murtra has argued for greater consolidation in European telecommunications.

The underlying logic is straightforward.

Europe has numerous national operators competing in fragmented markets, while the United States has a smaller number of much larger telecommunications companies.

Supporters of consolidation argue that larger European groups would be better able to invest in networks, technology and innovation.

Morningstar views consolidation positively in principle, but remains cautious about the regulatory prospects.

European competition authorities have historically been reluctant to approve transactions that significantly reduce the number of mobile operators in individual countries.

That tension between industrial scale and competition policy remains one of the defining questions facing European telecoms.

Spain remains intensely competitive

Telefónica’s home market illustrates the challenge.

The combination of Orange Spain and MásMóvil changed the structure of the Spanish telecommunications sector, but regulatory remedies also strengthened conditions for Digi, one of the market’s most aggressive challengers.

Digi has national roaming arrangements that allow it to expand gradually while maintaining relatively low capital requirements.

Its low-price strategy continues to place pressure on established operators.

Morningstar nevertheless considers Telefónica comparatively well protected among Spain’s three largest providers because of the quality of its network and its ability to support higher pricing through proprietary content and differentiated services.

Even so, sustained price competition limits the potential for significant margin expansion.

Germany and the UK remain essential

Outside Spain, Germany and the United Kingdom form two of Telefónica’s remaining European pillars.

The company maintains significant positions in both markets, although it continues to trail larger competitors such as Deutsche Telekom in Germany and BT Group in Britain.

In the UK, Telefónica participates through its joint venture with Virgin Media.

Competition in British broadband remains intense because numerous smaller regional operators have continued building fibre networks, creating overlapping infrastructure in some areas.

This adds another layer of pressure to a sector already characterised by high capital expenditure.

Morningstar questions Telefónica’s cost ambitions

Despite viewing the shares as undervalued, Morningstar identifies important weaknesses in Telefónica’s strategy.

One is the absence of more aggressive cost reductions.

The group’s strategic plan through 2028 anticipates compound annual growth of approximately 1.5% to 2.5% in both revenue and EBITDA between 2025 and 2028.

If revenue and EBITDA expand at similar rates, significant margin improvement would be limited.

Morningstar also questions expectations surrounding digital services such as cybersecurity.

Telefónica sees those activities as a source of future growth, but the research firm considers parts of the sector relatively commoditised and notes that the Spanish company often operates as an integrator or reseller of third-party technology.

That makes the investment case dependent not simply on revenue expansion, but on Telefónica’s ability to improve capital efficiency and simplify the organisation.

Two companies, two transformations

The fact that Merlin Properties and Telefónica appear among recent purchases by selected European value managers does not mean the companies share a common business model.

Quite the opposite.

Merlin is attempting to create a major new growth platform around data centres and AI infrastructure, while maintaining its traditional property businesses.

Telefónica is reducing complexity, disposing of assets and concentrating resources around four core markets.

One investment thesis is based heavily on expansion.

The other depends substantially on restructuring.

But they share a characteristic central to value investing: the market price is viewed as being below the underlying value estimated by the analyst.

Morningstar calculates that discount at approximately 22% for Merlin and 13% for Telefónica.

That does not guarantee future returns. A stock can remain undervalued for extended periods, while changes in business fundamentals can alter estimates of fair value.

It does, however, explain why some active managers are beginning to look more closely at the two Spanish companies.

Spain’s small portfolio weight hides significant corporate stories

Spanish stocks may represent only around 5% of European large-cap value fund assets, but that relatively small allocation can obscure substantial transformations underway among individual companies.

Merlin is positioning Iberia as a potential alternative to Europe’s traditional data-centre hubs and preparing an infrastructure pipeline measured in gigawatts.

Telefónica, meanwhile, is dismantling parts of the international empire it built over decades to emerge as a more focused telecommunications group centred on Spain, Germany, the UK and Brazil.

Both strategies carry significant risks.

Merlin needs enormous capital to execute its data-centre ambitions, while Telefónica continues to confront intense competition, modest expected growth and the structural challenge of improving returns in European telecoms.

Yet those uncertainties are precisely part of the value proposition identified by investors.

For fund managers searching Europe for companies whose market prices may not fully reflect their long-term potential, two very different Spanish groups have moved onto the radar: Merlin Properties as a bet on the infrastructure behind artificial intelligence, and Telefónica as a bet on whether one of Europe’s largest telecom groups can successfully reinvent itself.