The announcement by AT&T (NYSE:T) to purchase Leap Wireless for $1.19 billion can be viewed plainly as a move by the telecom giant to solidify its spectrum holdings. This, in addition, can be seen as a move by AT&T towards gaining a stronger foothold in the ever growing prepaid mobile market. Such an acquisition implies a hefty premium for Leap Wireless International Inc. (LEAP) considering that the San Diego-based company has been struggling since 2010 through 2012.
Furthermore, Leap shareholders are also to benefit from the proceeds of the sale of the company's 700MHz spectrum in Chicago. According to a statement, the spectrum was acquired for $204 million last year. The offer by AT&T implies a premium of 88% ($15 a share) over Leap's closing price ($7.98 a share) as of July 12, 2013. But will the deal provide any significant benefit to AT&T, and how exactly does such an acquisition fit into the plans of AT&T?
AT&T Plans to Meet its LTE Spectrum Needs
Companies in the U.S. wireless market are constantly looking for ways to improve their financials, given the saturation of the market. Currently, AT&T is facing stiff competition from Verizon Communications Inc. (NYSE:VZ) and Sprint Nextel Corp. (NYSE:S) for the wireless market.
AT&T needs the additional spectrum that comes with the Leap purchase to augment its 3G capacity as well as to build up its LTE network in order to catch up with the competition. For instance, Verizon, which is well ahead of AT&T in terms of LTE network coverage, expects to cover at least 260 million in almost 400 markets across the U.S.
The Leap deal on its own has been touted by many analysts to have significant implications for AT&T spectrum holdings. Currently, the telecom giant has around 80 million subscribers under its name and has its sights set on attracting at least 70 million subscribers on board by the end of the year. Thus, in order to bridge the gap, AT&T will definitely be on the lookout for any spectrum it can get its hands on.
According to the carrier, Leap's ACS and PCS bands widely complement AT&T's existing spectrum licenses. It follows that all the unused spectrum from the deal will immediately be put to use towards AT&T's efforts to boost its 4G LTE networks. Of course, this will only materialize once the deal has been approved.
Ease the Pressure on Profit Margin
Due to the shift in preference by Americans from the traditional landlines to individual cell phones, there has been an increase in pressure for the wireless business to outperform. The painful decline in landline can be attributed to the increase in smartphone penetration. Judging by the record Smartphone sales AT&T generated in the last fiscal year, the impact on margins is expected to be quite considerable.
However, AT&T is experiencing a lot of strain on its 3G network due to the burgeoning data needs of its customers. This has led to the need of an additional spectrum in order to strengthen the company's capacity to handle such a massive strain on its network. The purchase of Leap will be a great addition to AT&T's capacity to handle data usage from its subscribers. This will ultimately result to an ease in pressure on profit margins because of the increase in data usage revenues. Ultimately, the company's growth will be reflected on its shares which have been on the rise ever since July, 2012.
Graph of AT&T Stock Performance
How much of a Good Deal is this to AT&T Investors?
I totally support the acquisition of Leap by AT&T, as investors stand to gain more from the purchase. In comparison to Sprint's acquisition of Clearwire (CLWR), the Leap deal is far better not only to Leap's shareholders, but to AT&T as well as its investors. Unlike Clearwire, Leap is a wireless provider bringing on board around 5 million subscribers, indicating that AT&T is not only gaining spectrum but also improving its customer base.
At some point after the announcement by AT&T, Leap closed the afterhours trading session at about $17 a share, with a market cap of $1.17 billion market cap, significantly higher than what AT&T $1.19B offered.
Lastly, from the table above it is clear that Leap is worthy of the buyout price. On the other hand, some will view it as not worth it and maybe it is not a worthy deal to AT&T's investors. I beg to differ, as with the current spectrum chase, high prices will have to be paid at some point.
As a result, I argue that it would be prudent of AT&T's investors to hold onto their shares as the deal is bound to bring in lots of revenue. Therefore, in this highly competitive market, such a spectrum deal is very beneficial to investors both in the short and long run as the gap between AT&T and Verizon is being closed.