Jack Grubman is a consultant to the telecommunications industry through his firm Magee Group. He was a top-ranked telecommunications research analyst on Wall Street in the 1980s and 1990s. In 2003, he settled a lawsuit with the Securities and Exchange Commission over accusations that his work for investment banking clients led him to publish misleading research reports on companies that his employer, Citigroup, advised. As part of the settlement, in which Mr. Grubman did not admit or deny the allegations, he was barred from the securities industry. Mr. Grubman has no role either as an adviser or an investor in any of the companies discussed in this essay. This is his first public commentary since his settlement a decade ago.
For someone who made his name covering the 1990s explosion in the telecommunications sector, the “strategic logic†behind Dish Network’s bid for Sprint Nextel brings back bad memories.
A newly formed, highly leveraged company promising to take market share from more established competitors with stronger, less leveraged balance sheets is a movie I have seen before. Trust me, it ends badly.
Investors in Sprint Nextel must choose between owning either a 30 percent stake in the current Sprint, with the remaining owned by SoftBank, or a 32 percent stake in a combined Dish/Sprint.
The question is whether a less leveraged Sprint able to execute its network vision on the sturdier financial footing provided by Softbank’s cash - and delivering a growing suite of wireless broadband services - creates more shareholder value than an unproven “Quad Play†attempting to take share with a highly leveraged balance sheet and assets that require significant capital investment.
Shareholders should also consider that the secular growth prospects of wireless, Sprint’s core business, are superior to those of subscription video, Dish’s core business, which is in secular decline.
History suggests that the alternative of a SoftBank/Sprint combination will create more shareholder value. With SoftBank, Sprint will have roughly $15 billion to $20 billion of net debt and a leverage ratio of three times earnings before interest, taxes, depreciation and amortization, or Ebitda, as opposed to $40 billion to $45 billion of net debt and a leverage ratio of five times Ebitda with the Dish transaction.
This matters in a capital intensive industry where a highly leveraged balance sheet negatively effects share price. Sprint shareholders have waited a long time for the company to be on sound financial footing; the leverage associated with the Dish transaction defeats that objective.
Unlike the 1990s, when incumbent carriers had legacy networks and offered single services, today AT&T, Verizon, Comcast and others have modern Internet protocol networks and already offer triple or quad-play services. This raises the bar for Dish to execute its plan, especially since neither Dish nor Sprint have the broadband assets into the home that the telecommunications and cable carriers own.
Also consider that Dish/Sprint would have over twice the leverage of these companies, leaving it with very little financial maneuverability. If Dish/Sprint is unable to deliver significant market penetration for bundled services, the assumptions about revenue synergies, and Ebitda growth, will not materialize, and shareholders will be left holding the bag again.
There may also come a day in the near future when bundled services become a thing of the past. Increasingly, households want higher bandwidth to support their growing demand for video online. Fatter pipes into the home will have more value than traditional broadcast video services, and this makes Google’s 1 Gigabit fiber network a greater potential competitive threat to telecommunications/cable duopolies than Dish/Sprint attempting to replicate FiOS or cable with what is likely to be inferior bandwidth into the home.
The market paradigm is about to shift away from bundles centered on linear video offerings to à la carte offerings where bandwidth is king and video will be increasingly delivered in a “nonlinear†fashion direct to devices either online or over wireless networks. Hence Dish’s assumptions about the success of a bundle, especially with inferior bandwidth, is probably overstated.
The fact is, Dish needs Sprint far more than Sprint needs Dish. Sprint is in the right sector, namely wireless, which is still growing in terms of subscribers and, more important, is well positioned to benefit from an acceleration of new services, especially video, as 4G/LTE networks get deployed more widely.
Dish, on the other hand, has a core business in secular decline that is this decade’s version of landline telephony, and its spectrum holdings have no utility as a wireless business without Sprint’s network. One could argue that Dish’s gambit is to secure a network access deal rather than a legitimate desire to own Sprint.
In contrast, the cash infusion from SoftBank and resulting deleveraging of Sprint’s balance sheet will allow Sprint to aggressively pursue its Network Vision strategy while having the financial flexibility to explore creative partnerships with an array of content and application developers, as well as opportunistically pursue attractive low-band spectrum. This will enhance shareholder value.
If the promise of growth from the Dish/Sprint business model were vastly superior to that of a stand-alone Sprint then perhaps the additional risk of a highly leveraged balance sheet would be worth it. The growth prospects of the combination of SoftBank and Sprint, however, with a deleveraged balance sheet and a strong core wireless business, are far better than being part of a highly leveraged company whose core business is in secular decline.
George Santayana said, “Those who cannot remember the past are condemned to repeat it.†Having witnessed the disasters for shareholders that past “mega-Media/Telecom†mergers like AOL/Time Warner or Vivendi/Universal created, Sprint shareholders would be wise to hang up on Dish.
