U.S. Markets open in 5 hrs 10 mins

T-Mobile/MetrPCS Merger Talks

Zacks Equity Research

Mergers and takeovers in the U.S. telecom market  tend to hit the headlines from time to time.  The latest buzz is about T-Mobile USA’s merger plans with low cost carrier MetroPCS Communications, Inc. (PCS).

According to Bloomberg reports, German giant, Deutsche Telekom AG (DTEGY) is in talks with MetroPCS for a possible merger with its U.S. wireless unit, T-Mobile USA.

Per the reports, the deal is expected to comprise a stock swap between the two parties. This would enable Deutsche Telekom to gain majority  controlling power in the combined entity, which would be publicly traded. 

The market reacted positively to the report, taking the MetroPCS stock up 31% from its opening, to the day's high of $8.45 on May 9. Closest rival Leap Wireless International Inc. (LEAP) also benefited from market talks with a 14% rise in its stock price.

Much Ado about Telecom M&As

The recent years have been a boom period for the telecom market with rapid expansion in the wireless space. According to market sources, the wireless industry contributed over $195 billion to the U.S. GDP in 2011 and this is expected to reach approximately $1.5 trillion over the next ten years. 

Globally, the market for wireless services stands at around $61 billion, which is expected to touch approximately $155 billion by 2016 with a compounded annual growth rate of approximately 20%.  A major share of this growth story is dedicated to the insatiable demand for wireless data services. 

According to CTIA reports, the U.S. wireless data traffic grew approximately 123% to 866.7 billion MB in 2011 from 388 billion MB in 2010. CTIA reports also suggest that the number of smartphone users has leaped 43% to 111.5 million in 2011, from 78.2 million in 2010. The technological innovations in the wireless device segment have transformed the simple cell phone into a smartphone that feeds on data and does more than talk and text.

Further, with hi-tech marvels like Apple’s (AAPL) iPhone and Google’s (GOOG) Android-based smartphones and tablets, mobile technology has come of age. These wireless devices have become a quick access solution for all Internet activities and have virtually replaced the conventional PC and laptops.

As a result, wireless carriers are increasingly deploying 3G and 4G network platforms that would support the capacity requirements for wireless data services. However, the deployment of these network platforms requires additional spectrum, which is currently the biggest concern for the wireless industry.

Given the lack of spectrum, carriers are facing difficulties in managing data traffic, resulting in reduced data speed on most network areas. Carriers like AT&T (T) and Verizon Communications (VZ), were also reported to have gone limited on their unlimited data plans following  high congestion on their networks.    

Wireless carriers are in the fray to obtain spectrum licensing and lure customers by deploying 3G and 4G services acrosst heir markets. As spectrum remains limited, the fight is intensifying. Smaller carriers are failing to cope with industrial bigwigs, given huge capital requirements.

As a result, the best way to deal with spectrum constraints for these low cost carriers is to form a suitable liaison to withstand competition. Stiff competition has forced larger carriers to strengthen their market position.

Apart from spectrum worries, these carriers are looking toward ,strengthening their market through acquisitions. These acquisitions serve to increase their subscriber base and most importantly, enhance  infrastructure. Further, acquiring smaller companies could also aid in reducing competition in the race for spectrum. To conclude, spectrum requirement will be the major consideration that will drive the M&A bandwagon.

Recent Acquisition Attempts

In 2011, the news about the $39 billion merger between AT&T Inc. and T-Mobile USA took the wireless market by storm. It would have been the biggest deal ever, consolidating AT&T’s position as the largest U.S. wireless carrier to dethrone Verizon.

However, the much-awaited deal ended in a disaster. Following a nine-month fight to win approvals, the deal was dropped by AT&T. The Federal Communications Commission (:FCC) cited concerns of unfair competition, layoffs, higher prices, lower innovation and investment in the industry. 

The deal was also opposed by the third-largest U.S. wireless carrier, Sprint Nextel Corp. (S), as the combined company would have been almost three times that of Sprint and consequently in a position to hurt its profitability.

Following the AT&T/ T-Mobile merger fall out, speculation over a Sprint and Metro PCS merger were also making the rounds earlier this year. However, this deal too did not materialize as Sprint’s board of director’s rejected the proposition. 

Outcomes from T-Mobile/ MetroPCS Expected Deal

Given the recent history of failed M&A deals, we remain somewhat skeptical about any new news. Deutsche Telekom rhas eportedly said that merging with  smaller company was not a choice, but a move in which it had no option.

However, after the failed attempt of Deutsche Telekom to collaborate with U.S. telecom czar AT&T, Deutsche Telekom has not lost hopes about going public in the U.S. market. This contemplated deal was another effort by the company to strengthen its foothold in the U.S. and save falling subscriber numbers.

It is also rumored that Deutsche Telekom is viewing other viable options such as launching IPO or sale of T-Mobile USA. According to market reports, the company is also in talks with other companies regarding its plans on T-Mobile USA.

However, given the nature of the recent merger talks, we think that this deal does not call for any regulatory threat. T-Mobile USA and MetroPCS hold market penetration of approximately 9% and 2%, respectively (according to Bloomberg). As a result, we do not foresee similar concerns surfacing as in the case of AT&T Inc/T-Mobile merger.

Upon execution, we expect the deal to be accretive to MetrPCS, given its alliance with the fourth-largest wireless operator following Verizon, AT&T and Sprint. However, only a wait and watch policy can confirm the extent of benefits that Deutsche Telekom is able to draw from the “in talks” deal.

We currently have a Zacks #4 Rank (Sell) On MetroPCS and a Zacks #5 Rank (Strong Sell) on Deutsche Telekom. For the long-term, we have a Neutral recommendation on MetroPCS.

Read the Full Research Report on PCS

Read the Full Research Report on T

Read the Full Research Report on S

Read the Full Research Report on GOOG

Read the Full Research Report on AAPL

Read the Full Research Report on VZ

Read the Full Research Report on LEAP

Read the Full Research Report on DTEGY

Zacks Investment Research

More From Zacks.com