Bid for Sprint Accelerates Wireless Consolidation

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The struggling communications company Sprint Nextel (NYSE: S) may have found a partner in Japan. The famed Japanese billionaire Masayoshi Son, the owner of Softbank, has shown interest in purchasing a major part of Sprint (reportedly up to 70% of the company) for $20 billion. Sprint itself confirmed that it is currently discussing the deal with Softbank. Meanwhile, the Japanese media reported that Son has been eying MetroPCS (NYSE: TMUS) as well. However, MetroPCS has finalized its merger plans with T-Mobile while Sprint, which was already interested in investing in MetroPCS, is believed to be waiting until the details of the deal between MetroPCS and T-Mobile are released in a couple of months. Sprint will then decide whether to make a counter-bid for MetroPCS or bid for the merged T-mobile/MetroPCS.

In short, the market dynamics for the smaller players in the American telecommunication industry are changing rapidly, with firms moving towards consolidation to effectively compete with the bigger boys: Verizon (NYSE: VZ) and AT&T (NYSE: T). In the future, 3G, 4G and LTE technologies will have a larger role to play in global communications, as more and more consumers switch towards the cheaper communication options (in most cases, free) through VoIP software such as Skype or, while the number of smartphone users continues to climb.

In the previous five quarters, Sprint has gone from generating operating income of $79 million in Q2 2011 to an operating loss of $629 million, while its net quarterly loss extended to $1.3 billion in Q2 2012. In the fiscal year ending Dec. 31, the company reported a net loss of $2.89 billion; meanwhile, for the first six months of 2012 Sprint has already piled up $2.23 billion in losses, or more than 77% of its total 2011 loss. 

Over the years Sprint’s performance has been anything but satisfactory. Although it has been able to increase revenue, it has not been able to operate at a profit. In the previous four years, Sprint’s best performance has been the net loss of $2.4 billion for the fiscal year ending 2009. Its stock, however, tells a completely different story.

Since the beginning of 2007, Sprint’s shares have fallen by 87.6%. However, in 2012 the stock is up a staggering 146.2% and continues to climb.  Once the Dept. of Justice iced the AT&T/T-Mobile merger, Sprint's stock enjoyed a serious rebound.  For those that have played this angle, in the short term, they have been handsomely rewarded.

However, Sprint’s rise is not entirely based on the Japanese bid. The company has been generating cash thanks to higher iPhone sales and increasing demand for data communications.  Sprint has been able to consistently improve its cash reserves, which is why analysts were expecting the company to have an acquisition of its own. Armed with the cash infusion from Softbank, Sprint is likely to go after Clearwire (NASDAQ: CLWR) for its remaining 51% stake.

Softbank, on the other hand, is Japan’s third largest telecom operator, with a market cap of $37.57 billion, more than twice as big as Sprint’s and about nine times as big as MetroPCS’s. The company acquired UK-based Vodafone (NASDAQ: VOD) about five years ago, and is currently the primary distributer for Apple (NASDAQ: AAPL)’s iPhone in Japan.  The company operates in one of the most sophisticated markets in the world, so Softbank’s integration with Sprint should create operational and performance synergies. Moreover, the US market could have a third option that will challenge the might of Verizon and AT&T that together boast a total subscriber base of 200 million, which is about two-third of the total US population.  

Verizon and AT&T have the enterprise and business market tied up, but the consumer end of the market is shifting towards no-contract service that providers like MetroPCS caters to.  Smart phone activations on no-contract plans saw all of the growth in the 2nd quarter, while the number of contract plans was flat.  This is where Softbank’s interest in Sprint and the others comes from: consolidating the low-end consumer smart phone market.

<table> <tbody> <tr> <td> </td> <td> <p><strong><span>Sprint</span></strong><span></span></p> </td> <td> <p><strong><span>MetroPCS</span></strong><span></span></p> </td> <td> <p><strong><span>Verizon</span></strong><span></span></p> </td> <td> <p><strong><span>AT&T</span></strong><span></span></p> </td> </tr> <tr> <td> <p><strong><span>P/E</span></strong><span></span></p> </td> <td> <p>N/A</p> </td> <td> <p>12.93</p> </td> <td> <p>44.8</p> </td> <td> <p>48.41</p> </td> </tr> <tr> <td> <p><strong><span>EPS</span></strong><span></span></p> </td> <td> <p>-1.28</p> </td> <td> <p>0.9</p> </td> <td> <p>1.01</p> </td> <td> <p>0.75</p> </td> </tr> <tr> <td> <p><strong><span>Div</span></strong><span></span></p> </td> <td> <p>N/A</p> </td> <td> <p>N/A</p> </td> <td> <p>2.06</p> </td> <td> <p>1.76</p> </td> </tr> <tr> <td> <p><strong><span>Yield</span></strong><span></span></p> </td> <td> <p>N/A</p> </td> <td> <p>N/A</p> </td> <td> <p>4.50%</p> </td> <td> <p>4.80%</p> </td> </tr> <tr> <td> <p><strong><span>ROA</span></strong><span></span></p> </td> <td> <p>0.06%</p> </td> <td> <p>5.36%</p> </td> <td> <p>4.00%</p> </td> <td> <p>4.01%</p> </td> </tr> <tr> <td> <p><strong><span>ROE</span></strong><span></span></p> </td> <td> <p>-26.80%</p> </td> <td> <p>11.27%</p> </td> <td> <p>12.72%</p> </td> <td> <p>4.30%</p> </td> </tr> </tbody> </table>

The only hurdle in the Softbank deal at the moment is Sprint’s shareholder’s approval for reducing their stake in the company to 30%. If everything goes according to Softbank’s plans, then its Sprint bid combined with MetroPCS, which is merging with T-Mobile, could create an entirely new company with a huge subscriber base that could grow to be on par with Verizon and AT&T.

The run up to the U.S. elections has seen rising protectionism trends, but those are primarily focused towards China, and I suspect that if China Mobile was the tenderer of this offer the dynamics would be very different.  When Deutsche Telekom (parent of T-Mobile) first entered the American market in 2000 through acquisition of VoiceStream, its bid raised eyebrows of several regulators as that was the first time that a foreign firm was getting a slice out of the U.S. wireless market.  However, more than 10 years of successful operations of T-mobile USA should abate any fears.  Softbank is a private company, while Deutsche Telekom is partially owned by the German government, so it will be difficult for the deal to be squashed on national security reasons, unless relations between Japan and the U.S. sour significantly in the next year.   

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PeterPham8 has no positions in the stocks mentioned above. The Motley Fool owns shares of Apple. Motley Fool newsletter services recommend Apple, Vodafone Group Plc (ADR), and Vodafone Group Plc (ADR). Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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