Shares of Sprint Nextel Corp. (S) have had a stellar run this year, gaining almost 140% in value, and the recent boost was provided by the speculation that Japanese telecom company, Softbank (OTC:SFTBF), was on its way to acquiring a 70% stake in the third largest telecom company in the U.S. Speculation of the merger, which will bring in significant funds for Sprint, was confirmed by the management of both companies in a conference call, as well as a press release.
Softbank, contrary to what the name suggests, is involved in providing mobile services in the saturated Japanese market, and now with the possible merger with Sprint, which will be called New Sprint post-merger, it is planning to enter the already saturated U.S. telecom industry. Under the terms of the agreement, which is still subject to shareholder and regulator approval, the Japanese company will invest $20 billion in Sprint, $12 billion of which will be distributed to the company's shareholders at $7.3 per share, which is a premium of almost 25% to the current price of Sprint's stock. This would represent almost 55% of the company's outstanding shares. The remaining $8 billion or so will go to Sprint from Softbank investing in the recently issued sprint convertibles, as well as shares.
There are number of benefits for Sprint if this deal actually goes through. Sprint has been posting losses and losing customers for a number of years, partly due to the AT&T (T) and Verizon (VZ) monopoly in the U.S., and partly due to its Nextel Network. Both reasons have weighed on its profitability, but with the company deciding to finally shun its Nextel network, growth in customer numbers and better service can be expected going forward. With Softbank injecting over $8 billion capital into Sprint, it is highly likely that the funds will go into speeding up the Nextel shutdown process, which is already well on track. Sprint's network vision program, which is expected to bring operational and financial synergies in excess of $5 billion, will certainly be helped or boosted by the $8 billion capital that Softbank is throwing in the company. However, how quickly both parties go about the merger and how long regulators take to approve the merger remains to be seen. The sooner it's finalized, the better for Sprint of course.
The most recent consolidation news in the industry came when the German telecom company Deutsche Telekom decided to merge its U.S. operations through T-Mobile with MetroPCS Communications (PCS). Most thought that Sprint would be sidelined with that deal and that it would face stiffer competition from the post merger entity going forward. However, if the Softbank and Sprint deal goes through, the company will have more cash on its balance sheet and an overall stronger balance sheet to pursue its own acquisitions. Sprint already owns a 48% stake in Clearwire (CLWR), a company that provides fast 4G services to its 11 million customers, and with the injection of capital by Softbank, it is very likely that Sprint will eventually go for the majority share in the company. That will not only help it with customer growth, but also give it more wireless spectrum, which is what every telecom carrier in the industry is aiming to get more of.
Overall, the news of Softbank acquiring a majority stake in Sprint is a positive for the company, and it will help the company in the recent wave of consolidation in the industry, with a possible acquisition of Mobile wireless company, Clearwire. Moreover, the acquisition of Clearwire will definitely serve to improve its spectrum position, where it currently doesn't have a competitive advantage. Capital injection will also help further improve its balance sheet, and reduce its leverage. Its network vision program, which is expected to bring much needed customer growth, will also be helped by the deal. Sprint is trading at cheap valuations as reflected in a lower price to sales of 0.4x as compared to AT&T's 1.7x. Moreover, S is also cheap on an EV/EBITDA basis, trading at 6x as compared to T's 8x. Based on the valuations, S looks undervalued and has further upside potential. Recent upgrades have come from Jefferies & company, which changed its rating from underperform to hold, and raised its target price to $7. Since our last report on Sprint, S is up almost 70%. In our previous reports on Sprint, we had maintained a positive outlook on the stock, and we reiterate our previous stance based on the reasons discussed above.