(Corrects spelling of Chetan Sharma’s name in 20th paragraph.)
The agreement to combine the U.S. wireless businesses into one company will give Deutsche Telekom a 74 percent stake, and MetroPCS shareholders will retain the rest, the companies announced today, following a Bloomberg News report about the talks yesterday. While Sprint Chief Executive Officer Dan Hesse has said the third-largest U.S. mobile-phone carrier will play a role in industry consolidation, Stifel Financial Corp. says a tie-up between MetroPCS and T-Mobile USA will limit Sprint’s takeover options.
Even with its 109 percent stock gain this year topping the MSCI World Telecommunication Services Index, Sprint is trading at a 58 percent discount to sales, the lowest in the group, according to data compiled by Bloomberg. Sprint’s best remaining option to better compete with larger rivals AT&T Inc. (T) and Verizon Wireless may be to buy Leap Wireless (LEAP) International Inc., according to Wall Street Access. While Sprint won’t be forced to immediately do a deal, it could still try to merge with T-Mobile USA or buy spectrum from Dish Network Corp. (DISH) or Verizon Wireless, said Piper Jaffray Cos.
“It certainly pushes them into a corner,” Tom Burnett, director of research and vice chairman at New York-based Wall Street Access, which specializes in mergers and event-driven research, said in a telephone interview. “You can’t be an orphan in this industry. You’ve got to try and save a place at the table, and there’s going to be some movement here.”
The supervisory board of Bonn-based Deutsche Telekom and Richardson, Texas-based MetroPCS’s board of directors approved the transaction, the companies said in a statement today. MetroPCS shareholders will get $1.5 billion in cash as part of the deal, and the combined entity will retain the T-Mobile name.
T-Mobile USA, the fourth-largest U.S. carrier, is seeking to stem client losses and gain scale to better compete in a market dominated by AT&T and Verizon Wireless, the joint venture between Verizon Communications Inc. (VZ) and Vodafone Group Plc (VOD). The wireless giants each had more than 105 million subscribers as of June 30, more than three times T-Mobile USA’s 33.2 million, according to data from Sanford C. Bernstein & Co.
A combination with MetroPCS will give T-Mobile USA an additional 9.3 million prepaid customers, bringing it closer to No. 3 Sprint, which had 56.4 million subscribers, Bernstein data show.
Shares of MetroPCS (PCS) surged 18 percent yesterday to the highest level in 14 months after Bloomberg reported on the deal talks, increasing its market value to $4.9 billion.
The carrier is in need of its own deal to bolster its subscriber base after the $36 billion takeover of Nextel Communications Inc. in 2005 left the company with incompatible networks, a shrinking customer base and five years of net losses.
Sprint’s closing price yesterday of $4.90 is less than a quarter of its value five years ago. The company is trading at 0.42 times its revenue in the last 12 months, compared with a median price-sales multiple of 1.17 for the 47 companies in the MSCI World Telecommunication Services Index, data compiled by Bloomberg show.
Even after Sprint boosted sales this year by offering the iPhone and began rolling out a faster network in a drive to return to profitability by 2014, CEO Hesse said in a Sept. 6 interview that the company is still “under-scaled.” He said consolidation “would be constructive” for the industry and that Sprint “will play a role in that some way.”
A tie-up between T-Mobile USA and MetroPCS “does leave them out in the cold a little bit,” Christopher King, a Baltimore-based analyst with Stifel, said in a phone interview.
The deal could put Sprint on the defensive, forcing the company to seek a deal with Leap in order to guard its position in the industry, Wall Street Access’s Burnett said. Shares of Leap rose as much as 17 percent yesterday, the biggest gain in almost four years, before finishing the day up 8.4 percent.
Leap, with 5.9 million prepaid subscribers at the end of second the quarter, is a “logical orphan” for Sprint, Burnett said in a phone interview. “Those are going to be the two guys kind of left at the dance without a chair to sit on.”
Greg Lund, a spokesman for San Diego-based Leap, declined to comment on whether the company would consider a takeover by Sprint.
Instead of seeking to buy a rival, Sprint could purchase radio waves, called spectrum, from companies such as Dish and Verizon Wireless to expand network coverage, said Chris Larsen, a New York-based analyst at Piper Jaffray.
Bob Toevs, a spokesman for Englewood, Colorado-based Dish, declined to comment. Robin Nicola, a spokeswoman for Verizon Wireless, said the company’s spectrum sale announced in April “is an open process and any potential buyers may participate.”
A marriage between T-Mobile USA and Sprint also can’t be ruled out as a possibility, even if T-Mobile USA goes ahead with a deal with MetroPCS, said Chetan Sharma, an independent wireless consultant who covers telecommunications from Issaquah, Washington.
“It doesn’t take T-Mobile off the table for Sprint,” he said in a phone interview. “It just increases the price tag for them if they were to acquire them further down the road.”
A completed deal would it make more complicated for Sprint to attempt to buy the combined entity, Stifel’s King said.
“Even if they wanted to team up with T-Mobile and T-Mobile was an interested party, you’ve got a bigger T-Mobile now to swallow and you’re going to have to wait at least a year,” King said in a phone interview.
Instead, Sprint could try to preempt a combination by making a rival offer for MetroPCS (PCS), said Wall Street Access’s Burnett.
“Sprint might try to break up the party before it becomes a party,” Burnett said.
Zack Shafran, a money manager at Waddell & Reed Financial Inc., which oversees more than $90 billion including Sprint shares, said that even without a deal, Sprint is improving operations by rolling out its new network and working towards a return to profit, which may help the company better compete.
“The reason we’re investors in Sprint today and for the foreseeable future is the fact that they’re running the business better,” Shafran, who is based in Overland Park, Kansas, said in a phone interview. “Importantly, we think that’s their top priority.”
Besides, deal talks in the telecommunications industry have a long history of not coming to fruition.
Sprint abandoned plans earlier this year to buy MetroPCS after the board rejected the transaction, which may have cost as much as $8 billion including debt, two people familiar with the plan said in February.
Sprint also held discussions with Deutsche Telekom about buying T-Mobile USA prior to the March 2011 announcement that AT&T offered to acquire the unit for $39 billion, people with knowledge of the matter said at the time. U.S. regulatory scrutiny forced AT&T to abandon its bid for T-Mobile USA in December.
A deal with MetroPCS or Leap may not be enough to make either T-Mobile USA or Sprint a competitive threat to larger rivals, Piper Jaffray’s Larsen said.
“The problems that Sprint and T-Mobile have are that they’re not as big as AT&T and Verizon,” Larsen said in a phone interview. “They don’t have the scale so therefore it’s harder to compete. Increasing your size 25 percent, it helps. But when you’re less than half as big as you’re rival, getting 25 percent bigger narrows the gap, but it doesn’t close the gap.”