Competitive Intelligence

Cingular Wins AT&T Wireless Competition: Vodafone Withdraws Amid Verizon Complexities

Vodafone ran up the bidding in a stroke of competitive gamesmanship unlike any in recent memory. I think it was a strategic masterpiece that will leave a pair of global competitors – SBC and BellSouth – trying to recover for years to come. Cingular thought it had to convince Vodafone that to beat them, they would have to vastly overpay. I really don’t think Vodafone was ever serious about a bid for AT&T Wireless; it was a ruse to make Cingular overpay instead.

But maybe in doing so, according to a false report in the early edition of the New York Times claiming Vodafone had won the competition to acquire AT&T Wireless, perhaps Cingular paid a bit more than it should have. Still, it clearly wasn’t in Vodafone shareholders’ best interest to win, what with a necessary exit from its Verizon Wireless partnership leaving a tax liability of $4 billion, beside the fact that Cingular has the best operating synergies, particularly in terms of technologies – a fact which essentially escaped most analysts looking at the situation.

No doubt, when Cingular Wireless on Tuesday won an auction for smaller rival AT&T Wireless Services with a late-night $41 billion offer that edged out Britain's Vodafone Group, it created the new U.S. wireless leader. The deal, worth $15 per share, was the largest all-cash offer in history and marked a 37 percent increase over Cingular's initial offer made last month. AT&T Wireless was an attractive target as the third-largest U.S. mobile phone operator with the second-highest revenue per customer, with a 17 percent marketshare. NTT DoCoMo had invested $10 billion in AT&T Wireless - although that investment was trading lately with a value about half that.

Another big advantage for Vodafone entering the race, whether they bought them or not, was the peek they got under the hood of a major competitor.

"I don't think they overpaid. It's definitely a bet for their future," said one telecom banker, who was not involved in the deal. "It's a huge wireless hedge. It will be the basis for more bundling (of other services) with the parent companies."

The combined company leapfrogs current U.S. market leader Verizon Wireless, giving it 46 million customers, annual revenues of more than $32 billion and a presence in 97 of the top 100 U.S. markets. Cingular's parents, Baby Bells SBC and BellSouth, see the growing wireless market as a key to offsetting the decline of their core local telephone operations.

The deal also marked the start of long-awaited consolidation in the crowded U.S. wireless market where six national brands and a handful of regional players are battling for market share as subscriber growth slows. As the Consumers Union slammed the deal, saying the merger would lead to higher wireless-calling rates and poorer service. I disagree.

Although the merger would shrink the number of national carriers to five companies, I personally doubt the deal would ease the industry's intense competition and price wars since each new subscriber becomes more difficult to find with half the country already owning a wireless phone.

"We think that the price we paid is a fair price. Yes, AT&T Wireless has some issues ... but we think the company was sound before those problems and we view the problems as being temporary in nature," Cingular COO Ralph De La Vega said.

In the fourth quarter, AT&T Wireless said it lost customers and missed out on several hundred thousand potential new subscribers due to technical and customer-service problems. Analysts expect other carriers to prey on AT&T Wireless's recent operational woes and possible distractions during the merger, before its close at year-end.

Cingular CEO Stan Sigman will run the combined company, while AT&T Wireless Chairman John Zeglis, who took the company public in 2001 when it was spun off from former parent AT&T Corp., said he would leave once the deal closed.

SBC and BellSouth plan to finance the deal with a bridge loan, which is a temporary loan used until long-term financing is secured, but Cingular said it was not considering an IPO, despite a probable divestiture of some of the parent companies’ operating assets, in order to raise cash.

As we all know by now, Cingular won the auction after it sweetened its offer at the 11th hour to clinch a deal it feared was slipping away to Britain’s Vodafone, the world's largest wireless carrier. Vodafone was pleased the company did not compete more aggressively for a deal that would have hurt its earnings and shares of Vodafone rose five percent in London. "The markets think it's a good thing that Vodafone hasn't overpaid, although in the long term, of course, it does leave them with a strategic problem in the United States," said global equity strategist Patrik Schowitz at HSBC.

Vodafone said it remained committed to its minority stake in Verizon Wireless, the largest U.S. wireless carrier. Its partner, Verizon Communications, said, "We've worked together well in the past and we will continue to work well together."

Japan's NTT DoCoMo, decided on Friday against bidding for AT&T Wireless, said it would weigh its options in the wake of the Cingular deal, which will give it cash in exchange for its 16 percent stake in the company. SBC and BellSouth said the deal would hurt their earnings through 2006. But a merged Cingular expects to save billions of dollars by cutting overlapping staff and assets, and it expects to generate positive free cashflow in 2005. De Le Vega also said Cingular did not believe it should be required to exit any markets to appease any regulatory concerns about its new size. "We don't think there should be any divestitures, with the number of competitors we have, we don't see why that would be a requirement," De La Vega said.

I think Vodafone made Cingular flinch.

Fears that mobile phone giant Vodafone could be dragged into a costly and protracted bidding war for AT&T Wireless appeared to be on the horizon when Cingular, their $35 billion bid. As a result, AT&T Wireless asked for higher bids from both companies, after Cingular last week opened the bidding at $30 billion. To compound the pressure, sources close to the bidding said AT&T Wireless wanted a quick deal.

Why my belief in the ruse? Vodafone had no chance of making similar cost savings to Cingular and it surely would have overpaid. Its only U.S. presence is the 45 percent stake in Verizon Wireless, which it would have to sell if it bought AT&T Wireless. Plus, investors were not convinced that the purchase made sense for Vodafone, especially if it has to get rid of its highly profitable Verizon stake. The real question was, were investors resigned to the likelihood that Vodafone CEO Arun Sarin was determined to buy AT&T Wireless to gain complete control of a U.S. operation?

Plus, in contrast to Verizon, the AT&T Wireless business is losing customers and money and would almost certainly require substantial investment by whomever buys them to put it back on a competitive footing, synergies with Cingular or no. AT&T lost 4 percent of its customer base in January alone, and operating income dropped by 20 percent compared with the same time last year, as the company reported a loss in the fourth quarter of 2003.

In the end, I think Cingular – and its shareholders – probably paid more than they had to; and Vodafone had a larger strategically-adverse impact on two global competitors – SBC and BellSouth – that will put it on stronger footing elsewhere in the world telecom market.

- Arik

Posted by Arik Johnson at February 17, 2004 01:20 PM | TrackBack