By Greg Ruel - Senior Research Associate
On Wednesday, Reuters reported a potential combination of
MetroPCS Communications Inc., the nation's leading provider of no
annual contract, unlimited, flat-rate wireless communications
service, and T-Mobile USA, the fourth largest U.S. cell phone
provider. Deutsche Telekom AG (DT) was reportedly looking to expand
wireless operations in the U.S. and a merger of its T-Mobile USA
unit with MetroPCS increases its competitiveness with industry
juggernauts Verizon and AT&T. While some analysts applaud the
merger, MetroPCS shareholders aren't quite as enamored. The
potential merger immediately sparked several investigations and
class-action lawsuits charging the board of MetroPCS with a breach
of fiduciary duty and other violations relating to the potential
sale of the company.
In a complicated deal, MetroPCS is to declare a 1 for 2 reverse
stock-split and pay its shareholders $1.5 billion, a value of $4.09
per share prior to the reverse split. The combination results in
MetroPCS acquiring all of T-Mobile's capital stock by issuing
Deutsche Telekom 74 percent of MetroPCS's common stock on a pro
forma basis. Eventually, MetroPCS will still operate as its own
entity but under the name T-Mobile. Investigations began
immediately upon the announced deal and charge MetroPCS's board
with failing to adequately shop for a pact of better value.
Lawsuits cite one analyst in particular who set a price target for
MetroPCS stock at $18 per share. Also, Kevin Smithen, an analyst at
Macquarie Securities USA Inc. in New York, estimated that MetroPCS
shareholders were looking for something in the neighborhood of 35
percent of the proposed new company instead of the agreed upon 26
Not only is the deal complex, but combining the entities is
expected to be a huge undertaking. The two companies utilize
completely different network technologies. This will prevent phones
from one carrier from working on the other's network. In an
integration process expected to take a few years, MetroPCS's
wireless network would most likely be shut down by the end of 2015.
Given that the majority of phones for the two companies run on
incompatible network standards, any short-term cost savings of
combining the entities becomes greatly reduced.
Shareholders certainly have a right to be suspicious of the deal
which has yet to be approved by regulators or shareholders. It's no
secret that Sprint, the number three cell phone provider in the
U.S., was also looking to make a deal. Sprint nearly picked up
T-Mobile in early 2011 before Deutsche Telekom agreed for the unit
to be acquired by AT&T, a deal ultimately killed by regulators.
Regulators had antitrust concerns with the deal, as AT&T, the
leading wireless provider in America, would have swallowed up
T-Mobile, the fourth largest provider.
It's expected that regulators would be much more likely to
approve this deal, a combination of smaller providers that could
ultimately help the two entities compete against larger rivals.
Still, in a deal that didn't have to be made straight away,
shareholders are asking why the rush when Sprint was supposedly
also talking with DT about a T-Mobile merger at the same time,
according to people familiar with the negotiations. In fact, Sprint
passed on a deal to buy MetroPCS earlier in 2012 but was never seen
as out of play. Moreover, reports over the last couple of days
suggest that Sprint may yet weigh an offer to
top the T-Mobile bid
and acquire MetroPCS.
Still, it's important to examine the board's decision to sell
MetroPCS at what some describe as a
fire-sale price or shotgun wedding
. Ultimately, the deal looks like a win for T-Mobile. Benefits of
the merger include nine million new subscribers for T-Mobile as
well as a stronger presence in the Northeast portion of the U.S.
Customers of MetroPCS, who are used to low-cost, contract-free
plans, could soon be pressured into signing up for two-year service
agreements, which is a more lucrative arrangement at cell phone
companies and more typical of what is offered by T-Mobile
currently. "The prepaid business is a very difficult business,"
said Christopher Larsen, an analyst at Piper Jaffray & Co. in
New York. "We are not fans of that. Conversion of MetroPCS
subscribers to postpaid would be very difficult."
The timing of the deal is also curious. MetroPCS was struggling
mightily as recently as this summer, with shares trading below six
dollars through most of June. However the company had a positive
earnings statement in July, with Roger Linquist, Chairman and CEO
of MetroPCS declaring, "During the second quarter, we focused on
generating Adjusted EBITDA and cash flow versus subscriber growth
as we position for our anticipated launch of 4G LTE. I'm pleased to
report that with this emphasis, we reported both the highest
Adjusted EBITDA as well as the highest Adjusted EBITDA margin in
Company history as a result of this focus."
Shares increased by 37 percent in overnight trading as a result
of the announcement and continued to rise throughout the summer and
fall, climbing to a close of $13.57 on October 2 on rumors of the
deal. However, once the terms of the deal were announced, shares
declined by 10 percent on October 3. Investors were left wondering
why MetroPCS accepted an unfavorable deal during a period of
growth. Moreover, shareholders want to know if the company vetted
the market for the best deal it could get or if the board simply
threw in the proverbial towel.
The board of MetroPCS is comprised of just six directors, about
two-thirds the size of the average midcap company. MetroPCS
combines the roles of CEO and Chair, with co-founder Roger Linquist
filling the role since the company's inception 23 years ago. The
next highest board authority, lead director Arthur Patterson, has
also served on the board since its inception and sits on three of
the board's four committees. The relationship suggests a great
familiarity with each other at the very least and stands counter to
the idea that a lead director should be someone willing to stand up
to the board chair and CEO as a representative for the interests of
its shareholders. The rest of the board includes the Vice Chairman
of TA Associates (an investor in MetroPCS), the CFO of McGraw-Hill
Companies, a former executive of Rockwell International, and
finally James Perry, who GMI designates a flagged director for his
involvement with the board of Allegiance Telecom, which filed for
Chapter 11 bankruptcy protection in May, 2003. The small board of
MetroPCS is light on industry experience, and with the board
chairman and lead director having served together for more than two
decades, it's easy to see why shareholders suspect the board of
being too passive in negotiations and not performing proper due
diligence in shopping for the best deal.
According to the GMI Litigation Risk Model, MetroPCS has a
higher risk of class action litigation than 86% of companies in
North America. Indeed, the company has been considered at High Risk
of class action litigation for the majority of the past year
following monthly updates with each new interim financial
statement. GMI has tracked four different investigations into the
company since merger terms were announced on Wednesday.
If the current deal is approved by regulators and shareholders,
it would likely close in the first half of 2013. However, while
regulators are expected to smile on the combination, shareholders
at MetroPCS, yet to approve the deal, are reacting less
enthusiastically. With analysts describing Deutsche Telekom as "
desperate to rid itself"
of its underperforming U.S. carrier, shareholders of MetroPCS were
surely expecting more than they're getting in the deal. With
approvals pending and Sprint still in play, this agreement is far
I have no positions in any stocks mentioned, and no plans to
initiate any positions within the next 72 hours. I wrote this
article myself, and it expresses my own opinions. I am not
receiving compensation for it. I have no business relationship with
any company whose stock is mentioned in this article.
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