Why This Clearwire Investor Isn't Confident About Sprint’s Intentions

Rajesh is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

The US telecom industry is changing in response to the shifting needs of the customers. Competition is getting fierce with the passage of time as wireless carriers are undertaking repositioning strategies to change themselves to meet the requirements of their users. The virtual duopoly of Verizon and AT&T is forcing other national carriers to take steps to reduce their gap with the top two. The third largest US carrier Sprint (NYSE: S) witnessed a 7% rise in its stock price for the month of October after the Japanese giant Softbank showed interest in acquiring a 70% share in the carrier. This is good news for the Kansas wireless operator. However, things might not be as favorable for Clearwire (NASDAQ: CLWR), in which Sprint has increased its stake to 50.8% as of October.

A major Clearwire investor, Mount Kellett Capital Management, which holds 7.3% of Clearwire’s voting shares, is doubtful about Sprint’s intentions. The private New York investment firm believes that Sprint could take advantage of Clearwire’s undervalued stock and buy the company outright at a steeply discounted price. For Sprint the move could mean strengthening the relationship with Clearwire, but for the latter it would mean an unprofitable and undervalued deal. So Mount Kellett sent a letter to Clearwire’s board to take care of the situation and stay alert to these intentions.

Right after Softbank disclosed its interest to buy a 70% stake in Sprint, the carrier increased its interest in Clearwire by 5% to 50.8%. This allowed Sprint to regain a majority ownership in the company. Let’s delve a little deeper to find out what actually made the third largest US carrier interested in Clearwire.

Why is Sprint interested in Clearwire?
The Softbank deal is extremely essential for Sprint to fund its Network Vision project and get strong enough to fight the wireless biggies. Not only will the $20.1 billion deal help the carrier to finance its network upgrading program, it will also help it to significantly unburden its debt-heavy balance sheet.

However, Softbank doesn’t seem very confident about Sprint possessing adequate spectrum. Sprint is concerned that Softbank could lose interest in the deal, and so it doesn’t want to take chances. In order to remove such uncertainty, Sprint paid $100 million to Clearwire founder Craig McCaw for an additional stake in Clearwire, which has a massive spectrum position, to remove Softbank’s doubts about Sprint.

The move doesn’t give Sprint control over Clearwire’s operation, but it does give the carrier the right to appoint 7 out of 13 board members. This implies that Sprint would have control of the board, and so have some control over the company’s abundant spectrum holding as well.

Sprint Chief Executive Dan Hesse said that the company has no intentions of a buyout, as they already have a commercial arrangement with Clearwire, in which the smaller company provides WiMax 4G services and is building the 4G LTE. However, after the announcement of the Softbank deal, Hesse seems to be interested in Clearwire investors.

How could Clearwire investors be hurt if Sprint attempts a takeover?
In the letter sent to the board, Mount Kellett raised its concern about the possible takeover and feared that Sprint is waiting for Clearwire to come in such a position where it could purchase the latter outright at a much lower price. Clearwire is in the process of building the LTE network, and this is very expensive. The company only has enough cash to sustain the network construction for the next 12 months. It is falling short of about $1 billion to build the network, and this is precisely why the company’s stock is trading so low.

Presently a standstill agreement prohibits Sprint from acquiring the company. So Sprint may be waiting for Clearwire’s financial position to worsen so that it can be purchased at a depressed price. Once the agreement expires and Clearwire runs out of cash, Sprint will leave no chance to taking over the company and Clearwire will have no option other than to sell itself and cover the funding gap.

So how could Clearwire guard its position?
Mount Kellett suggests that Clearwire should sell off its excess spectrum to make up for the cash shortage. This would be a better alternative than allowing Sprint to takeover the company at such an undervalued price. As per Clearwire’s CFO, the company needs about 80 MHz to 100 MHz and holds 160 MHz. This means that it has 60-80 MHz in excess, which it could sell off to solve its cash crunch.

The company can hold an auction in this spectrum-tight environment where a number of wireless carriers are hunting for airwaves. Recently AT&T proposed to buy the debt ridden NextWave Wireless for $600 million to gain spectrum. T-Mobile and MetroPCS are in merger talks, and Dish Networks wishes to enter the cellphone arena. All these players could participate in buying Clearwire’s spectrum, as they know that data demand is soaring at a phenomenal rate.

Clearwire could sell the excess spectrum at a price of $0.38 MHz POP and raise about $6-9 billion cash, which is more than its current enterprise value. Even if the carrier sells a portion of its excess spectrum, it would be able to generate sufficient cash to meet its need. Once the company’s need for cash for the LTE build-out program is solved, its position would get much stronger in terms of valuation. Moreover, with sufficient cash in hand, Clearwire will also be able to explore various options to maximize shareholders return.

To Conclude
No matter what happens to Clearwire, customers will stand to gain at the end. The spectrum would be available, either with Sprint or some other carrier in case Clearwire decides to sell the excess spectrum. Clearwire has attempted to sell its spectrum, but couldn’t find buyers as its airwaves lie outside the band where the US carriers operate. However, with the advanced LTE version carriers will be able to put together various frequencies and use Clearwire’s spectrum. It will be interesting to see how Clearwire reacts to the situation. Will it pay heed to Mount Kellett, or will it fall prey to Sprint?

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