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Sprint-Nextel's Sideshow Battle

By Steve Rosenbush Every circus has its big top, but it's the sideshow that often arouses the most curiosity. And so it is with the $35 billion merger of Sprint (FON) and Nextel (NXTL), which will spawn a new giant in the wireless sector.

The main act is the creation of a powerful peer that will compete head-on with Verizon Wireless (VZ) and Cingular, owned by SBC (SBC) and BellSouth (BLS). But many observers are enthralled with the sideshow, which pits Sprint and Nextel against nearly a dozen disgruntled affiliates.

TURMOIL. The long-simmering tensions, which predate the deal's announcement late last year, recently came to the fore. Sprint revealed on July 11 that it would buy one of its affiliates, US Unwired (UNWR), for $1 billion in cash and the assumption of about $300,000 in debt.

The Lake Charles (La.)-based outfit sells Sprint wireless phone service in smaller markets where Sprint itself chose not to invest in the deployment of infrastructure. For its part, US Unwired agreed to drop a lawsuit that opposed the Sprint-Nextel combo.

The US Unwired acquisition reflects tensions rampant among Sprint, Nextel, and their affiliates. Using Sprint's spectrum and brand name, US Unwired paid to construct wireless networks. Sprint also agreed not to compete with US Unwired.

ERODING AGREEMENT. But Nextel, which was never a party to the deal, offers service in areas where US Unwired operates. US Unwired claimed that the Sprint-Nextel merger would undermine the non-compete agreement.

Nine other affiliates, including publicly held Alamosa Holdings (APCS), Ubiquitel (UPCS), and iPCS (IPCX), face similar issues. So do a group of smaller, privately held companies, including IWO, Northern PCS, Shentel, Gulf Coast Wireless, Enterprise, and Switel.

Nextel faces similar problems with its sole affiliate, Nextel Partners (NXTP). A big company in its own right, it ranks No. 24 on BusinessWeek's IT100. With $1.5 billion in revenue, Nextel Partners was the most profitable company on the list, generating return on equity of 81.3%.

STRANDED WITH A BRAND. The outfit has sued to stop Sprint-Nextel. Both companies acknowledge that Nextel Partners has the right to force Nextel to buy it in the event of a change in ownership.

But there already are signs of a dispute over price. And the affiliate is concerned that if a deal somehow doesn't materialize, Nextel could adopt the Sprint name, leaving Nextel Partners stranded with the Nextel brand. Nextel and Nextel Partners declined to comment for this story, citing pending litigation.

Investment bankers, analysts, and investors believe Sprint and Nextel could be forced to buy some or perhaps even all of the remaining affiliates. One investment banker, who declined to be identified, said he believed all of them would be acquired eventually, adding billions to Sprint and Nextel's combined debt of about $27 billion.

WHAT'S THE RUSH? The affiliates, including Nextel Partners, have a combined enterprise value of $20 billion, according to a June report from Legg Mason. "Handling the affiliate issues could be expensive," Morgan Stanley analyst Simon Flannery warned in a July 14 report. Sprint and Nextel declined comment.

There's evidence that the issue could drag on for months after the merger closes later this summer. Paul Saleh, chief financial officer of Nextel, indicated that the company was in no rush to resolve its dispute with Nextel Partners.

"It could take quite a while to resolve, at least four months [after the close of the Sprint deal]," Saleh told investors on a July 21 conference call. "We're just letting the process play out, and we'll see where that takes us."

ROOM FOR DISCORD. Why will it take so long to resolve the Nextel issue? Neither side can address it until Nextel is sold. Then Nextel Partners can call a special vote among its investors.

If they decide they want to force a sale, Nextel and Nextel Partners must each hire appraisers. If the valuations differ by more than 10%, a third appraiser will be called.

There's plenty of room for disagreement over the fair price of Nextel Partners. Its stock has soared 40%, to $25, since the Sprint-Nextel deal was announced. Nextel may argue the fair value of the company should discount that run-up.

MURKY MATTERS. But analysts at JPMorgan argued in a July 8 note that the rise is linked to a rally in the wireless sector. In fact, they say the segment's stocks have soared 50% since December, outpacing the rise of Nextel Partners.

The very murkiness of these matters may ultimately drive more acquisitions. One investment banker, who declined to be identified, says the legal and financial issues could be argued either way for months. That uncertainty could create a huge distraction for Sprint and Nextel after they complete their merger.

This may be reason enough to dispense with the sideshow by buying out some or all of the affiliates and focusing on rivals Verizon Wireless and Cingular. That competition is, after all, the star attraction under the big top. Rosenbush is a senior writer at BusinessWeek Online in New York

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