It's about time that BCE (NYSE:BCE) finally makes a move to take over Bell Aliant (OTC:BLIAF). The prospect of a merger has been raised by analysts many times in the past, and shareholders have been eagerly awaiting a buyout offer for years. From a technical standpoint, now seems to be the perfect time for BCE to act.
In 1999, the four major telecom providers in Atlantic Canada were merged together to form Bell Aliant. BCE Inc. owned approximately 53% of the combined company. In 2006 a restructuring occurred and BCE took over ownership of Bell Aliant's wireless operations in return for BCE transferring ownership of its residential phone operations in rural Quebec and Ontario to Bell Aliant. The net effect was for BCE to gain control of all high growth operations, leaving Bell Aliant with the slower or declining growth properties. BCE retained a 44% share of Bell Aliant enabling it to profit from Bell Aliant's high dividend payment, while shielding BCE earnings from Bell Aliant's declining residential phone business.
With scarce growth prospects from its remaining business lines, Bell Aliant was forced to innovate and set its sights on the future. After investing millions in building out a high tech fiber optic network, it launched its ultra fast Internet service named FibreOP in 2009. The rollout was expensive and slow, but it proved a popular option for customers and helped Bell Aliant retain and expand its competitive position in the market.
Leveraging the popularity of its FibreOP network Bell Aliant has been able to entice new subscribers with the prospects of lightening fast internet. Operating revenue has been driven higher by up selling customizable bundling options to new clients. In 2013 Bell Aliant CEO declared that the FibreOP network had reached critical mass, meaning that the bulk of the FibreOP infrastructure was complete and future cost to expand the fiber optic network could be paid with cashflow from the FibreOP subscribers. This led to increased operating revenue and far lower capital expenditures. Furthermore the company has taken advantage of low interest rates by refinancing a large portion of its debt. This has positively impacted earnings. Given Bell Aliant's strong financial health and expanding customer base, in 2013, CEO Karen Sheriff, declared to all shareholders that the company's high dividend payment was safe and that management had no plans to reduce their payout ratio.
After suffering through years of contracting revenue, Bell Aliant has turned a corner and is now focused on accelerating growth and expanding its subscriber base. Offering one of the fastest internet experiences in Canada using a newly deployed fibre optic network, similar to that being tested and deployed by Google Inc. in select American cities, Bell Aliant is no longer an antiquated widow and orphan stock. It has transformed itself into one of the most technologically sophisticated telecom companies in the world, offering a premium service to its customers and a juicy dividend yield of over 7% to its shareholders.
The BCE Takeover
And, speaking of shareholders, BCE still owns 44% of Bell Aliant. Seeking to streamline its corporate ownership structure, consolidate operations and increase profits and growth, it is only a matter of time before BCE proposes a buyout offer to gain control of the remaining 56%.
For BCE, a merger with Bell Aliant would make sense for the following reasons
1) Profits: A takeover of Bell Aliant would be immediately accretive to BCE earnings and cashflow. In 2012 Bell Aliant had earnings of $322 million and free cash flow of $547 million. Considering the synergies created by a merger and the consolidation of redundant positions, BCE should easily be able to drive profits even higher. Moreover, BCE could pay for the merger by issuing shares rather than debt. BCE shares are currently trading near an all time high while still offering a dividend yield of almost 5%. These factors would all contribute to enticing Bell Aliant shareholders into accepting the buyout.
2) Valuation: Bell Aliant stock has been trading in the mid $20 range for the last 5 years. The market still seems to be valuing the company like a low growth business. At the current $27 share price, Bell Aliant has a market capitalization of $6.5 billion. Considering that BCE already owns 44% of the company, analyst Maher Yaghi estimates that if BCE were to offer $31.50 per share (a 16% premium to current price) the takeover would "provide a positive impact to overall free cash flow for BCE". The total cost of a takeover, assuming an offer price of $31.50 would be about $4 billion. Considering BCE's market capitalization of $35 billion and strong balance sheet with over $2 billion in cash, BCE would comfortably be able to absorb Bell Aliant.
3) Competitive environment: The telecommunications industry in Canada is highly competitive but remarkably consolidated. After its controversial takeover of Astral Media, which faced intense regulatory scrutiny, BCE will likely be unable to expand its media properties through further acquisitions. As such, BCE will be focusing on expanding its established telecommunications business. BCE is already the largest telecom company in Canada so organic growth is capped. Meanwhile, Bell Aliant is a local player, operating mostly in the Atlantic provinces and it is facing increasing competition from Rogers (A nationwide provider) and EastLink (A local telecom). A merger would allow BCE to expand its telecom reach while also helping Bell Aliant fend off competitive threats. A merger would be unlikely to face regulatory hurdles considering that BCE already controls Ball Aliant and Bell Aliant does not control any broadcasting properties.
The writing is on the wall for a BCE takeover of Bell Aliant. Having reinvented itself as a faster growing telecom company, with a newly built fiber optic network, BCE will be eager to buy Bell Aliant and continue organically growing their operations. Even if a buyout deal is only announced at some point in 2014, Bell Aliant is still a compelling investment for shareholders. With a dividend yield of almost 7%, shareholders are being paid handsomely as they wait for an inevitable acquisition.