Speculators May Be Disappointed by Leap Wireless's Economics

Yesterday, we heard a rumor that AT&T (T) was considering purchasing Leap Wireless (LEAP) at a very hopeful $30.00 per share. We think economics argues against such a deal and even at Leap's current share price of $17.51 the economics would be challenging. Making a deal less likely is that LEAP has a CDMA network while AT&T's runs on GSM.

Leap's cost per gross addition was $201 in the June, 2009 quarter. For comparison purposes we remind readers Sprint (S) paid less than $140 per customer for Virgin Mobile. We believe cost per gross addition is a reasonable benchmark to use when valuing prepaid carriers.

In the unlikely event that LEAP's acquirer spent only enough money to maintain the current subscribers on the current network and based on last quarter's results, we would value each subscriber at roughly $620. If this was truly strategic and complementary to a buyer, this price might become relevant. However, with churn at 4.4%, the average life of a customer is short, less than 2 years. Making it hard for anyone thinking longer term.

At $30 per share: with about 78 million fully diluted shares outstanding and about $2.1B in net debt the company's enterprise value is $4.3 Billion. Assuming the company's spectrum is worth what it cost (reasonable) that would have AT&T paying about high $770 per customer. if the spectrum is worth twice what the company paid for it (aggressive) that would have AT&T paying a still high $620 per customer.

At $17.51 per share (the current stock price) the economics are still tough. Factoring spectrum at cost puts the price at $570 per customer, using our aggressive spectrum value shows a still high $421 per customer price.

With respect to LEAP's AWS spectrum we do not see AT&T as a natural buyer. We would expect T-Mobile or Verizon (VZ) to be willing to pay a higher price than AT&T as both T-Mobile and Verizon hold similar AWS spectrum.

Disclosure: No positions in any of these stocks.

Comments

[Aryamehr:]

T-Mobile like ATT is a GSM carrier and I would be hard pressed to see them buying Leap. The only carrier that could benefit from the acquisition of Leap would be VZ, however VZ's size with the current Antitrust atmosphere in Washington I don't see that happening.

The logical M&A that might have a chance is Metro PCS and Leap.

Sep 03 10:21 AM

[Mary LaRue:]

A M&A between LEAP and PCS is logical but most likely off the table, due to the National Roaming Agreement and License Exchange with PCS. All things considered, unless there is an EBITDA margin contraction in 2010, I am looking forward to a 19% EBITDA growth on LEAP. Addtionally,I think the proposed acquisition of Virgin by Sprint will reduce competition significantly.
LEAP is a solid company with a promising future. While some are focusing upon the negative opinions that I believe are linked to its cyclical patterns, I will stick to the big picture.

Nov 02 11:53 AM