Sprint: Bernstein Ups to Hold; Still an Ugly Market for Cellular

Sprint-Nextel (S) this afternoon receives its second upgrade of the day following its $12.1 billion deal with Japan‘s Softbank, with Bernstein Research‘s Craig Moffett raising his rating on the shares to Market Perform from Underperform, and raising his price target to $6 from $3.

Moffett’s upgrade follows one by by Jefferies & Co. this morning, to Hold from Underperform.

Sprint shares today fell 4 cents or $5.69. Shares of partner Clearwire (CLWR) surged 37 cents, or 16%, to $2.69.

Argues Moffett, the deal leaves Sprint much better capitalized, with an $8 billion cash infusion now taking the risk of bankruptcy from “genuine” to “de minimus.”

And the deal is “substantially more attractive than the status quo for current sprint shareholders,” writes Moffett, as he does his back-of-the-envelope calculation of deal valuation:

For every 100 shares of Sprint investors own today, 55 will be redeemed for $7.30 in cash (well above market), and the remaining 45 will be in the recapitalized company. As such, Sprint’s stock price should reflect a weighted average of the two values. Simplistically using $7.30 per share as a stock price, as has been cited in some press reports, is not correct. If one believes the new Sprint is worth, say, $6 per share, the warranted stock price today would equate to $6.00 times 45% plus $7.30 times 55%, or $6.72 per share (ignoring any probability of the deal breaking, and ignoring the time value of discounting the cash component back to the present). Alternatively, one can use the same ratios to back into the implied valuation post-tender. At the current price of $5.66 (at the time of this writing), the market is embedding a price of about $3.66 for Sprint on an ongoing basis, calculated as $5.66 less ($7.30 times 0.55) divided by 0.45.

However, the deal also leaves Sprint in a more competitive environment, with heavy investment, thinks Moffett, as “will be an aggressive pricer, and capital intensity will rise substantially as SoftBank invests to fix what Son describes as the U.S.’s “oh my God” slow speeds.”

Aside from additional liquidity, however, from an operational perspective little changes by virtue of having a new controlling shareholder and less leverage. Sprint will have more flexibility to acquire spectrum, invest in the network, or perhaps acquire assets, and when combined with SoftBank the companies will have greater purchasing power and an improved ability to prop up the TD-LTE ecosystem. But its ability to be more competitive rests on spending the money it has received, the ROIC of which is questionable and undoes some of the benefits of lower leverage.

Previously:
Sprint: Credit Suisse, BTIG Size up Clearwire Potential, October 15th, 2012.