Does SoftBank Eliminate All The Risk In Buying Sprint?

| About: Sprint Corporation (S)

Sprint (NYSE:S) is coming back after the near death experience of acquiring Nextel Communications in 2005 at a cost of $36 billion, $30 billion of which it had to write off. Or, at least, the owner and CEO of SoftBank (OTCPK:SFTBF), Masayoshi Son, thinks so.

SoftBank, a Japanese telecoms company, challenged Japan's two dominant telecoms companies when it bought Vodafone's Japan subsidiary in a risky move that is paying off; Softbank is on course to become the second largest company in the industry, after NTT DoCoMo, if its acquisition of a smaller rival goes through.

SoftBank decided that the greatest opportunity for growth lies not so much in its own home market but rather in the biggest and most lucrative telecoms market of all, the United States. Interestingly, its gambit parallels what it tried to do, successfully so far, in its home market, that is, challenge the two biggest telecoms giants on the block, in this case - Verizon (VZ) and AT&T (T).

The vehicle SoftBank chose to pursue this strategy is, of course, Sprint. For its turn, Sprint decided that to pursue its own comeback campaign, selling out to SoftBank would be the right move to make.

By the time SoftBank made its bid for Sprint, it had already turned the corner, at least from going bankrupt. The performance of its share price is indicative that Sprint has made a number of good choices. Since July 2012 the share price has gone up 60% and since the start of the year the stock gained no less than 137% in value. It has gone from a 52 week low of $2.10 to a 52 week high of $6.04 before going back a little bit and is now trading at just under $6.

Sprint, though, is still digging out from a hole. Its operating income has been in the red for the past four quarters at an average clip per quarter of a loss of $388 million. Its net income, likewise, has been negative for at least the last five quarters with losses in 3Q2012 of more than a quarter of a billion dollars. Meanwhile, revenue in the last year has gone up by only 5%.

Meanwhile Sprint has accumulated debt to the tune of $21.5 billion as against liquid assets of around $6.5 billion and market capitalization of $17 billion.

Nevertheless, there are strong indications that Sprint's performance is improving markedly in a series of key indicators such as postpaid additions, average revenue per user and churn. Likewise, Sprint is now number 1 in customer satisfaction according to the American Customer Satisfaction Index ratings, as well as most improved in 47 industries in the past four years.

Those are the results of smart and strategic decisions taken by Sprint. Foremost among them is the decision to pursue the installation of its 4G LTE network this year that presently covers 32 cities with plans to reach over 125 cities in the near future. Sprint has also markedly improved its 3G installations, resulting in better overall services in signal strength, coverage inside buildings and a diminution in calls that are blocked or dropped. It has also proceeded to shut down its Nextel network.

Sprint has also been busy with strategic acquisitions. It bought a stake in U.S. Cellular (USM) for $480 million which enabled it to acquire PCS spectrum and a significant number of customers in the Midwest.

Another company where synergies are to be had, and where Sprint already has a majority stake, is Clearwire. It has the same 4G technology as SoftBank and it is expected that this will leverage Sprint's buying power with providers of equipment and handset makers. With wireless mobile devices increasingly important this is a key consideration as well.

The last and most important strategic move by Sprint has been its sale to SoftBank. The deal, totaling $20 billion, will give the latter 70% control of the former. The lesser part, $8 billion, will be an acquisition of newly issued shares by Sprint, with a share price of $5.25 a share. The $12 billion remaining will be bought from existing shareholders at $7.30 per share, well over current market prices. The cash will, first, lighten Sprint's heavy debt burden, with its ratio of net debt to EBITDA going from 3 to 1,3 which should lead to lowering its borrowing costs; and second, allow it to be more aggressive in its investments to upgrade its network and services.

The new SoftBank-Sprint conglomerate has a very interesting upside. It aims to become one of the three leading telecoms companies in the U.S. market, rivaling Verizon and AT&T in size of market share and profits. It has the experience of a similar gamble by Masayoshi Son that appears to have been successful in Japan. It also has going for it a newly resurgent Sprint that seems to have made the right decisions lately. But the challenge is such that Sprint shares should be a bet only for those that are not risk averse.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

Business relationship disclosure: This article was prepared for Freedonia Freelance by one of our analysts.