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In the last six years the cash reserves of Sprint Nextel (NYSE: S) have reached an all-time high and its stock price has doubled. With these cash reserves and appreciated equity as collateral, it was thought that Sprint could attempt to make game-changing acquisitions. Analysts speculated that such deals would allow Sprint to compete more effectively with AT&T (T) and Verizon (NYSE: VZ).
Instead, it appears that Japan's third-largest mobile-phone company, Softbank, may acquire a 70% interest in Sprint. This is terrible news for Softbank shareholders, because acquisitions (for example, Sprint's experience with Nextel) can cause serious problems for the acquiring firm and these deals often cost a hefty premium.
What should Sprint's current shareholders do now that Sprint shares appreciated 14% after the news of Softbank's intentions? Sprint's current shareholders should take the money and run. The combined company does not offer attractive operations, and Sprint's debt burden was too high for it to sensibly make acquisitions on its own. If Softbank does not go through with this acquisition, Sprint's prospects are not attractive.
Sprint has been burned by rough takeovers before. Sprint's Nextel acquisition left Sprint with a marriage of irreconcilable networks, fleeing subscribers, and a five-year string of losses. With the company making a turnaround, Gabelli & Company analysts have speculated that the company can widen its customer base by acquiring Leap Wireless (NASDAQ: LEAP) or Metro PCS (NYSE: TMUS). Apparently Softbank came out of nowhere.
Analysts were right in that some kind of scale-enhancing merger would attract attention in M&A activity. In a telephone interview Zack Shafran of Waddell & Reed said, "You have two very large players in the form of AT&T and Verizon and now it's argued that a strong No. 3 would be a welcome player. Looks like Sprint are on the verge of perhaps being that strong third player."
In an interview at Sprint's Overland Park headquarters, CEO Dan Hesse said that consolidation "would be constructive" for the industry. Hesse also added that "Sprint will play a role in that some way."
The company is projecting a return to profitability in 2014. Sprint has made an obligation to buy $15.5 billion worth of iPhones, and invest $7 billion to take apart the Nextel network, and simultaneously build a new LTE network called the Network Vision program.
Sprint's Options without Softbank
Here are financial metrics for some of the stocks in the wireless industry:
Notice that Sprint is among the cheapest stocks on this list on a price-to-sales basis. This means that its valuation would increase if it bought all but two of these stocks at their market prices. (This ignores a takeover premium). Notice also that Sprint has a high debt-to-equity ratio, and that an acquisition of Leap Wireless and its debt burden would create a heavily indebted joined firm.
On the basis of historical sales growth, there are seven possible acquisition targets that are as promising as Leap Wireless:
There is no shortage of acquisition targets which Softbank/Sprint could court and try to acquire. But investors should be very fearful of such corporate marriages, since they will undoubtedly be consummated at premiums since T-Mobile and Softbank/Sprint are both known to be in desperate need of a partner.
If you are currently a Sprint shareholder, consider yourself lucky and sell your shares. If you are a Leap Wireless shareholder, wait for an offer to be proposed and for the share price to appreciate, then sell your shares. If you are a Metro PCS shareholder, wait for higher deal terms from either company and then sell your shares.
Do not buy into these companies at this point. Most of the money that is to be made is already priced into these shares, and there is substantial risk of any deal falling through. Expect any combination of firms to find a host of problems from incompatible networks, billing databases, and elusive synergies.
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