- Merger with MetroPCS will help improve margins and fuel earnings.
- Aggressive advertisement spending helps strengthen subscriber base as company set to benefit from acquiring spectrum from VZ.
- Company offers a potential price appreciation of approximately 13%.
I am bullish on T-Mobile (NYSE:TMUS), as the company is making the right strategic moves to improve its future performance. A merger with MetroPCS provides the company with potential to realize synergies, which will help improve its margins and fuel its earnings. Also, in the recent past, the company has successfully managed to strengthen its subscriber base with aggressive advertisement spending, improved data plans and strategic acquisitions. The company is also likely to benefit from spectrum acquisition from Verizon (NYSE:VZ). Moreover, based on my price target, the stock offers a potential price appreciation of approximately 13%.
Moving in Right Direction
In a highly saturated U.S telecom industry, with two dominant national players, VZ and AT&T (NYSE:T), TMUS has in the past taken initiatives to gain subscribers and market share through "price war" strategies. Some of the competitive strategies undertaken by the company include paying early termination fees and simple pricing plans. The competitive strategies used by the company in recent quarters have been productive, as the company experienced a notable increase in subscriber base and revenue increases. The following chart shows the competitive strategies initiated by the company since March 2013 to address the intense competition in the industry.
Source: Investors Presentation
The success of the above-mentioned strategies is evident from the fact that the company experienced net subscriber additions of 4.4 million in 2013. Also, the company experienced notable increases in total revenues in recent quarters. Furthermore, the company also managed to improve its churn rate. TMUS has gained healthy momentum in increasing its subscriber base, which, I believe, is likely to continue in the future. The following chart shows the net additions to postpaid subscribers in the four quarters of 2013.
Source: Company's Quarterly Reports
The following table shows the churn rate of postpaid subscribers for the four quarters of 2013.
Source: Investors Presentation
The following table shows the increase in total revenue experienced by the company in the last three quarters of 2013.
Increase in Total Revenues YoY %
Source: From 10-K and Company's Annual Reports
As the company mainly used competitive pricing to address intense competition and strengthen its performance, its average revenue per user (ARPU) was adversely affected. As the company has been successful in strengthening its subscriber base, I believe TMUS will now focus less on price wars and more on better services, which will portend well for its ARPU. The following table shows quarterly ARPU for TMUS postpaid subscribers.
ARPU (Y-O-Y % Change)
Source: Company's Annual Reports
Expected Synergies and 4G LTE Expansion
In an effort to strengthen its market share and improve future performance, the company acquired MetroPCS in 2013, which, I believe, was a correct initiative taken by TMUS. The company is likely to benefit from total cost synergies of $6-$7 billion (NPV). The company has already been making progress in realizing the synergies, as 2013's synergies came out to be better than expected. In 2013, the company realized actual CAPEX synergies of $675 million against expectations $70 to $135 million, and realized OPEX synergies of $105 million against expectations of $(30) to $30 million.
The early initiatives taken by the company to move MetroPCS customers away from the CDMA network to TMUS's GSM and LTE network have been successful. The company has brought 40%, or 3.5 million MetroPCS users to its own network and has successfully deployed 25% of MetroPCS acquired spectrum for its 4G LTE network. The switching of MetroPCS customers to TMUS's network has been faster than expected, and the company expects to shut down MetroPCS services in Las Vegas, Boston and Philadelphia by the end of 2014, which is likely to accelerate the cost synergies and portend well for the company's margins.
Also, the company is making healthy progress in 4G LTE deployment. TMUS has successfully installed LTE in 10MHz x 10MHz channels in 86% of its 50 top markets. Also, the company plans 4G LTE coverage expansion to more than 250 million people by the end of 2014, up from 209 million in 2013. The 4G LTE expansion is likely to benefit the company's operational performance, subscriber base and area penetration in the coming quarters. The following graph shows 4G LTE expansion for TMUS.
Source: Investors Presentation
Spectrum is the major resource that all companies in the telecom sector have been looking to acquire to improve their operations and coverage. Recently, to build upon its spectrum base, the company acquired 700-megahertz A-block spectrum from VZ for $2.4 billion in cash. The acquisition is expected to close by mid-2014.
There has been constant speculation about Sprint (NYSE:S) trying to buy TMUS. If the acquisition succeeds, with the FCC's approval, I believe there will be a further price war in the telecom sector. SoftBank (OTCPK:SFTBF) President Masayoshi Son said that if regulators allow S to integrate with TMUS, he will start an aggressive price war to expand his market share. "I want to be number one. So if we are number three, and if we have enough chance, I want to be number one. So I would go to price competition, very aggressively," said Son.
However, I foresee a very low probability of a merger between S and TMUS, as the deal is likely to face severe scrutiny from antitrust regulators, the Department of Justice and the FCC.
Cash Flows and Price Target
In the past, the company has mainly focused on competitive pricing to gain market share and strengthen subscriber base. However, recently, TMUS announced a $10 increase on its unlimited data plans, intended to support its cash flows. I believe the recent $10 increase is justified and consistent with TMUS's high-quality internet services. The company's CFO said the raise was needed to monetize data traffic and get back a return on improving network.
I have calculated a price target of $35, using free cash discounting. For my price target calculation, I used free cash flow estimates till 2019, cost of equity of 9%, after-tax cost of debt of 4% and a terminal-year growth rate of 1.5%. Based on the price target, the stock offers a potential price appreciation of about 13%.
Terminal Value of FCF
Estimated Free Cash Flows [FCF] ($-millions)
Present Value of FCF ($-millions)
Source: Equity Watch Estimates and Calculations
Total Value to Firm = $516 + $979 + $1,523 + $1,865 + $2,153 + $43,711 = $50,747 million
Total Debt = $22,680 million
Total Equity Value = Total Value to Firm - Total Equity Value
$28,067 = $50,747 - $22,680
Share Outstanding = 802.54 million
Price Target = Total Equity Value/Share Outstanding
$35 = $28,067/802.54
The company is likely to benefit from expected synergies from the acquisition of MetroPCS, which will also improve the company's margins. Also, the company has done well in strengthening its postpaid subscriber base and churn rate. Moreover, the company is making healthy progress in the deployment of the 4G LTE network, which will portend well for its operations and future performance. Furthermore, based upon my price target of $35/share, the stock offers a potential price appreciation of approximately 13%. Due to the above-mentioned factors, I am bullish on the stock.