The announcement that SoftBank, based in Tokyo, will buy up to 70% of Sprint Nextel Corporation (S) in a $20.1 billion deal has set to rest rumors that were doing the rounds in the financial markets. The deal, the biggest overseas acquisition by a Japanese telecommunications company, is an attempt to enter the U.S. market through Sprint, the country's third-largest carrier after Verizon (VZ) and AT&T (T).
While the deal is a shot in the arm of Sprint, the road ahead is not as rosy as it appears to be.
Mergers and acquisitions have been the hallmark of the U.S. mobile market. AT&T and Verizon have long been the dominant players in the U.S. mobile market. Their dominance has been instrumental in stifling the prospects of smaller players. The announcement of the SoftBank-Sprint deal follows T-Mobile's announcement earlier this month that it would buy MetroPCS (PCS). This came after Deutsche Telecom failed to sell T-Mobile to AT&T last year as the deal did not get approved by regulators. Deutsche Telecom's T-Mobile is the fourth-largest carrier while MetroPCS is the fifth largest.
Details of the Acquisition
Total investment by SoftBank in Sprint is to be in the tune of $20.1 billion. A major part of this, $12.1 billion will go to the shareholders of Sprint. "Individual Sprint shareholders will have the right to elect to receive, for each share of Sprint that they own, either (I) USD 7.30 in cash or (ii) one share of New Sprint stock, subject to proration if shareholders in the aggregate elect more than the total amount of cash or stock consideration, as applicable (which would result in the receipt of a mix of cash and stock)". The balance $8 billion goes to Sprint's balance sheet.
SoftBank is funding the investment through cash available with it and through financing arrangement with four banks, namely, Mizuho Corporate Bank, Ltd., Sumitomo Mitsui Banking Corporation, The Bank of Tokyo-Mitsubishi UFJ, Ltd. and Deutsche Bank AG, Tokyo Branch. Further details of the deal are available Individual Sprint shareholders.
The transaction is slated for closure by middle of 2013. As per the Individual Sprint shareholders, SoftBank must pay Sprint a termination fee of USD 600 million if the merger does not close due to inability of SoftBank to obtain financing. If Sprint accepts a better offer from a third party, it must pay SoftBank a termination fee of $600 million and up to $75 million of SoftBank's expenses if Sprint's shareholders do not approve the transaction.
What the Deal Means to Sprint and Investors
The deal will provide Sprint with much needed cash for strengthening its network and taking on the two biggies of the U.S. telecommunication industry. For SoftBank, it is a big risk. However, it is in line with what Masayoshi Son, the billionaire founder of SoftBank, is known for - taking big risks.
At the news conference, he said, "It could be safe if you do nothing, and our challenge in the U.S. is not going to be easy at all. We must enter a new market, one with a different culture, and we must start again from zero after all we have built. But not taking this challenge will be a bigger risk."
From SoftBank's perspective, it "enables SoftBank to establish an operating base as one of the largest mobile Internet companies in the world" and "to leverage its deep expertise in smartphones and next-generation mobile networks."
For Sprint, it provides $8 billion of fresh capital into its balance sheet to boost its efforts to strengthen its operating base for future growth.
Whereas the SoftBank deal helps Sprint in the roll out of LTE wireless, the Japanese company gains entry into the U.S. market. The new Sprint will float convertible bonds (convertible into common stock at $5.25 a share), a move that will lead to a savior for Sprint.
Some analysts believe that the deal is actually a savior for Sprint. Although there is plenty of cash available with Sprint, it also has a lot of long-term debt as well ($20.27 billion). With shareholder equity of $11.42 billion and market capitalization of just $17.07 billion the deal couldn't have come at a better time.
According to 15, it is "not a bad outcome for a company many investors told us was going bankrupt as late as March." Even as the news came that both companies were in advanced stage of finalizing the deal, Sprint's share rose by 15%.
After the formal announcement, trading in Sprint shares was a bit choppy in early morning trade on October 15, 2012. After that, for a moment it appeared that it would rush to its 52-week high of $6.04. The SoftBank deal is for $7.30 a share. However, it was not to be and it closed at $5.69. The same story was repeated the next day and the share closed at the same price again.
The Road Ahead
Market analysts however are circumspect. "It's this year's biggest technology acquisition and the largest outbound deal in Japan's history. But game-changing, it is not." - Reuters. Even if everything goes as per Son's plan, it boils down to getting the technology.
However, Sprint will still have to work hard to increase its market share. In the words of Gartner analyst Phillip Redman, "Getting the technology out there is just getting you to the table."
Sprint is already in the process of upgrading its network and closing its existing Nextel iDen network, a project that is expected to cost $7 billion. The SoftBank deal allows Sprint to retain its current executives, which means that the company can go ahead and work toward its vision for the future.
While priority for both the companies is to close the deal within the stipulated time period, with fresh capital infusion, Sprint has the option to consolidate Clearwire (CLWR), the mobile and fixed wireless broadband communications services company in which it already has 56.6% interest.
The SoftBank deal and the infusion of fresh capital into its balance sheet is particularly important for this reason as it allows Sprint to go ahead with its plans without creating fresh debt.
If the deal goes through, SoftBank and Sprint will have 96 million users in both the USA and Japan. This is below AT&T and Verizon, which have 103 million 108 million users respectively. According to Goldman Sachs, the two companies together account for nearly 75% of U.S. wireless subscribers. Sprint will be a distant third. The market dynamics have changed even further with the proposed move of teaming up of T-Mobile and MetroPCS Communications Inc . The T-Mobile and MetroPCS combine will have 42.5 million subscribers, up from 33 million, thus narrowing the gap with Sprint.
What SoftBank is betting on is that it will be able to disrupt the existing equations in the USA's mobile market just as Masayoshi Son was able to grab a substantial market share from the existing and well established players in Japan's mobile market.
The ground reality of the U.S. mobile market is that Sprint's brand value has deteriorated over the years despite changes in pricing and customer-friendly plans. Simply upgrading technology is not likely to pose a challenge to Verizon Communications Inc and AT&T Inc - "the twin towers of the U.S. mobile landscape" as Reuters describes the U.S. market leaders, as their positions appear unassailable at the moment.
Todd Rethemeier at Hudson Square has put it very aptly, "It doesn't change the landscape too much, in that this deal doesn't eliminate a competitor."
However, Masayoshi Son is an aggressive risk taker and an odd-man-out of sorts in the traditionally cautious corporate culture of Japan. He may have some strategies hidden in his sleeves. What he has to grapple with is not only a changed culture but also the fast changing landscape in the U.S. mobile market.
With operational improvements and cash coming in, the new entity needs to focus on making its technology stronger than AT&T and Verizon. One thing that it could look at is to acquire Clearwire. Masayoshi Son rightly said that the U.S. market is a "duopoly ripe for an ambitious third party that can use high-speed Internet plans to lure users."
SoftBank has proved to be a good giant killer in Japan. One can only hope that Masayoshi Son will be able to execute the deal well to bring Sprint closer to the two biggies of the U.S. mobile market.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.