Sprint, T-Mobile could combine network assets into a new company, analysts argue

Sprint (NYSE: S) and T-Mobile US (NYSE:TMUS) tried and failed last year to convince U.S. regulators to allow them to merge, and most financial analysts think any merger talk needs to be put off until 2017 at the earliest under a new administration. However, analysts at Evercore ISI think that the carriers could strike a merger of sorts by combining their respective network resources into a new company.

In a research note, Evercore ISI analysts Jonathan Schildkraut, Robert Gutman, Justin Ages and Michael Hart said that the creation of a new wireless network player that combines all network assets from Sprint and T-Mobile would achieve several benefits. It "would allow for (1) increased network investment, (2) faster speeds on the back of a deep spectrum portfolio, and (3) a reduction in network costs (both S and TMUS spend too much given a lack of scale) -- while maintaining, or improving, the competitive options for consumers."

"At the same time, investors of both companies should benefit from stronger [free cash flow] -- though we acknowledge carriers' strong desire to maintain their own network and to differentiate from competition on this front," they added.

The analysts propose that Sprint and T-Mobile combine their network resources into what is known as a Real Estate Investment Trust, a company that owns or finances income-producing real estate. Both carriers would rent network capacity from the new company, which they dubbed "NetCo," though NetCo could offer services to other carriers.

T-Mobile and Sprint shareholders would receive proportionate shares in NetCo, "allowing them to separately benefit from the financial properties and corporate structures of their original investment."

Together, the two carriers control 255 MHz of spectrum, significantly more than AT&T Mobility's (NYSE: T) 147 MHz and Verizon Wireless' (NYSE: VZ) 116 MHz, the analysts noted. "While the majority of the spectrum would still be high-band, NetCo could acquire a better balance of low-band spectrum through swaps and/or acquisition (which could be funded through the disposition of some high-band spectrum)," they said. "Given the significant spectrum depth and availability (i.e., mostly unused), NetCo would be able to produce network speeds well beyond what is currently experienced in the marketplace."

Meanwhile, while the number of national networks would decrease to three under this structure, there would still be four competitors, the analysts said, since Sprint and T-Mobile would remain independent carriers. "Admittedly, network differentiation between S and TMUS would disappear, but other differences (branding) would remain," they said. "And, as we discussed earlier, the combined network should represent a meaningful improvement over what those companies could create individually -- allowing S and TMUS to more effectively compete on network quality."

The NetCo company could support additional MVNO customers, including other U.S. carriers, foreign carriers and platform companies like Apple (NASDAQ: AAPL) and Microsoft (NASDAQ: MSFT)/

Further, the analysts said that because NetCo shares would be distributed to existing Sprint and T-Mobile shareholders, investors "would essentially be maintaining their ownership." However, they also said the deal could add more value given that it would lead to a better network for both carriers, reduced capital investments, improved operating margins and a stronger ability to attract incremental customers to the network through the independent NetCo operating structure. NetCo could also work as a separate financing vehicle for future investments, they said.

Furthermore, the analysts think that should a new administration "be more amenable to carrier consolidation, this initial combination would make a subsequent merger easier. The networks would already be combined, removing the headaches that result from network integrations."

For now, it doesn't seem like any combination between Sprint and T-Mobile is likely. "The only possible coming together of us and Sprint is, we pick them up on the sidewalk," T-Mobile CEO John Legere said last week at a Goldman Sachs investor conference. 

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