Two frequently mentioned names in M&A news came up again today – T-Mobile and Sprint. I will share my perspective on the timing of this merger as well as the different positions of both parties.
This is the third time that talks between these two companies (whose merger would challenge the two largest mobile carriers, Verizon and AT&T) are taking place over the last four years years. In each of the previous discussions, the talks ended in no deal. Why?
And how much does history matter? Some may remember that AT&T entered into a deal to buy T-Mobile for $39B way back in 2011. That deal was quashed by regulators, afraid of creating a duopoly in wireless communications in the US. (Although many would have argued that the deal would have delivered value to both shareholders and customers, who would have gotten greater bandwidth on AT&T’s congested networks.)
In the 2014 talks between T-Mobile and Sprint, the idea was abandoned, again presumably because of regulatory concerns regarding the Obama administration’s antitrust enforcement activity. The most recent round of talks ended in early November 2017.
So, why now? Well, for one, the deal is perceived as delivering value for shareholders – just look at the immediate jump in share prices of both companies – T-Mobile up over 6% and Sprint over 20%. Where are these talks likely to go? If we assume that there is value in the deal for shareholders of both companies and that the regulators will not interfere, how will the value be distributed between shareholders of the two companies? [We must note, as in prior discussions, the merger is really an acquisition by Sprint of T-Mobile.]
Let’s look at some facts.
|Operating Income||$1.76B||$4.89B (US)|
|Wireless Subscriber Share||12.64%||17.11%|
|Churn Rate (postpaid)||1.75%||1.18%|
|Number of Postpaid Subscribers||31.58M||51.92M|
The companies argue that efficiencies gained will benefit consumers, while those concerned with market concentration argue that prices for consumers will increase if only three viable wireless companies exist in the US market. Leaving aside the debate whether this merger will be good for consumers, whose shareholders will benefit the most – Sprint or T-Mobile? In other words, who has the leverage to sway the valuation and terms in their favor?
Sprint needs better network coverage to compete with AT&T and Verizon. Both companies need to invest in next-generation 5G networks, so a combined effort would, again, enable them to compete and provide better consumer services.
Back to history, long-term T-Mobile shareholders probably feel good about abandoning the 2011 deal with AT&T. Since the end of 2011, T-Mobile is up over 300% despite the fact that AT&T shares have dropped more than 10%. In November 2017 when Sprint and T-Mobile abandoned the previous talks, some in the market stated that abandonment was good for both companies.
Sprint reduced its massive promotional efforts that eroded margins, instead focusing on sustainability, investment and service improvement. Similarly, T-Mobile has shored up its subscriber base and reduced promotions. So, why now, and who wins?
T-Mobile has over 70 million customers (prepaid and post-paid) and has been the fastest growing carrier in the US though still far smaller than the two leaders. It is also far more profitable than Sprint. Sprint is smaller at 53 million customers and has had very limited growth. However, Sprint has a current P/E ratio of 3.5, while T-Mobile is at 12.1. Sprint is acknowledged to have a high quality network that could be leveraged by T-Mobile in a combined company.
Sprint has reduced its capital spending by 30% in the past few years due to its debt load, and the fact it has spare capacity (no growth), while T-Mobile’s cap spend is almost double at $8B. While the combined capital spending of both companies cannot match that of AT&T and Verizon, the synergies gained by use of Sprint’s excess capacity and reduction in overlap will benefit shareholders of both companies and allow for quicker expansion to the next generation of technologies. A reduction of cap spend of $1 to $2B annually on combined revenues in excess of $70B is significant. Therefore, all shareholders should benefit from a combination that, based on market cap ($53B for T-Mobile and $23.5B for Sprint) should be at a ratio of 70/30.
Overall, it seems T-Mobile should be in the driver’s seat. However, emotionally, will the current owner of Sprint (SoftBank) and its chairman, Masayoshi Son, which owns 85% of Sprint’s shares, be okay with sharing (or ceding) control with Deutsche Telekom, the majority owner of T-Mobile? Time will tell.