Is a Takeover Next for Nextel?

Though the No. 5 wireless outfit isn't yet profitable, its unique technology and juicy business market could make it a tempting target

By David Shook

Being the fifth-largest mobile-phone company in the brutally competitive U.S. wireless market hardly seems enviable. But for Nextel Communications (NXTL ), fifth in the pack may be a good spot -- at least for now.

"From my perspective, there are five major wireless carriers that compete on price, and one that competes on product. That's us," says Nextel CEO Timothy M. Donahue. But that's not why the stock is gaining ground these days. Rather, as the industry gears up for a wave of consolidation, investors believe the company could be acquired by one of the larger consumer carriers looking to dive into the business sector, where Nextel is king.

In this industry, things can happen quickly. Last February, Nextel's stock went into free-fall after the company issued a gloomy first-quarter earnings report, leading investors to wonder about its long-term prospects. "This was a company that Wall Street believed had no future," says Strong Funds Portfolio Manager Bradley C. Tank.


  But since October, the stock has rebounded, closing at $11.68 a share on Dec. 11, up 70% from a year-low of $6.87 on Oct. 2. That's still far from the 52-week high of $38 reached last January. But Donahue asserts, "We're bouncing back." And if a major carrier makes a play for Nextel, the stock could bounce back even further.

With rabid competition in the consumer market eroding margins, the larger wireless carriers are sure to break into the more lucrative business market, analysts say. Nextel, based in Reston, Va., offers unique technology, and its focus on business customers makes it "by far the attractive acquisition target in the U.S telecom market," according to one industry consultant who has worked with the company.

The focus on business allows Nextel to charge higher rates and advertise less, giving it the highest revenue per user -- about $70 a month -- and the lowest customer-turnover rate in the wireless industry. In the third quarter, Nextel added 481,000 U.S. customers, giving it 8.1 million nationwide and 9.6 million globally.


  A Nextel acquisition could be spurred by a recent Federal Communications Commission decision that will lift in January, 2003, the limit on spectrum capacity a company can have in any major market. Part of Nextel's appeal as a takeover stems from the fact that it operates on a different spectrum technology than its rivals. "Nextel started as a specialized mobile radio operator, not really a cellular operator. But they've put together a national network at a relatively low cost by harnessing SMR spectrum," says Strategis telecom analyst Adam Guy.

This integrated, digital-enhanced network, or IDEN, also allows Nextel to offer its customers the unique "push-to-talk" feature, which lets subscribers press a button for instant connection with another user, no dialing required.

That perk gives Nextel a strong edge in the higher-margin business-enterprise market, where customers include thousands of small and midsize companies and, increasingly, public-safety officials, all of whom rely on push-to-talk to communicate with one another. It's one thing that differentiates Nextel from the larger, consumer-focused carriers such as Verizon, AT&T Wireless, and Sprint.


  Nextel's success story has a flip side, however: It remains at least a year from profitability. In the fourth quarter, the average analyst estimate calls for a loss of 44 cents a share, or more than $400 million, compared to a loss of $359 million in the third quarter, or 46 cents a share. Total revenues should climb slightly, to $2 billion in the fourth quarter, up from $1.9 billion in the third quarter.

In addition to questions about profitability, critics suggest that Nextel's network capacity could be maxed out in a few years if customers start demanding the higher-bandwidth entertainment features soon to be offered by other carriers. Instead of undertaking an expensive network upgrade, Nextel has chosen a series of enhancements layered over its existing system.

Nextel argues that this strategy means its debt won't increase substantially and its resources won't be further drained. So over the near term, it expects to add features such as mobile e-mail, convergent messaging, and applications for sales and service staff, but probably not high-bandwidth consumer features such as music and video clips.


  To some extent, Nextel's approach makes sense: Most corporate customers don't need entertainment-oriented media to conduct business, analysts say. And the company is betting that its business customers will continue to be satisfied with data services carried over a slower network. "If the five national carriers want to build third-generation (3G) networks to accommodate all the high-bandwidth music and games consumers may want -- and the plumbers and sales forces of the world decide they need that stuff too -- then I guess Nextel loses," says one consultant.

CEO Donahue may be waiting for the right offer, but for now, he insists Nextel plans to go it alone. "We could become part of someone, or someone could become part of us," he says. "To be honest, I'm not real focused on that." Instead, Nextel is zeroing in on markets where its push-to-talk technology gives it an advantage, Donahue says. Following September 11, Nextel delivered 6,000 cell phones to Ground Zero in New York. Today, most of the emergency workers are still using Nextel equipment.

"I really don't want to use the event to blow my Nextel horn, but the reality is that while all other mobile networks were down September 11, Nextel stayed up," he says. "We're segmenting our business into different verticals -- from manufacturing, construction, transportation, and field service and sales, to finally a huge focus on government agencies and public safety."

Nextel has plenty of room to grow in all those markets. The key questions are whether it will be acquired by a larger carrier and whether its network capacity will be sufficient when consumers start demanding higher-bandwidth applications. Risky? Perhaps. But Nextel has the potential to regain its luster -- and many analysts say it's a company to keep an eye on, especially as wireless carriers consolidate in the next year or two.

Shook covers financial markets for BusinessWeek Online in New York

Edited by Beth Belton

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