FRANKFURT/NEW YORK (Reuters) - T-Mobile USA, which plans to merge with MetroPCS, will have to overcome technology hurdles to be able to take on bigger rivals Verizon Wireless, AT&T Inc and Sprint Nextel Corp.
MetroPCS and T-Mobile USA, a Deutsche Telekom unit, said on Wednesday they hope to set themselves up as the leading provider of wireless services to cost-conscious U.S. customers by combining their assets.
But as their networks are incompatible, they will have to convince MetroPCS customers to move to T-Mobile’s network with the aim of shutting down the MetroPCS network by the end of 2015. And T-Mobile USA has to upgrade its network with high-speed services to catch up to bigger competitors, the companies said.
“This all adds up to a hugely complex and challenging migration that will take significant time and investment, and which is a major risk for derailing the benefits of the deal,” said Mike Roberts, principal analyst at research firm Informa.
MetroPCS shares, which rose 18 percent on Tuesday on reports that a deal was in the works, fell 9.8 percent to $12.24 as the reality of the challenges took hold.
Uncertainty about the deal’s implied valuation for MetroPCS also did not help. One analyst calculated the value as low as $11 per share, while another put it at $19.51. The stock has more than doubled to since mid-July.
T-Mobile USA parent Deutsche Telekom has been looking for a Plan B for the No.4 U.S. wireless network since its $39 billion attempt to sell T-Mobile USA to AT&T collapsed in late 2011 because of opposition from antitrust regulators.
Deutsche Telekom said on Wednesday that it will take a 74 percent stake in the combined company, with the deal structured as a reverse merger in which smaller MetroPCS will buy T-Mobile USA. MetroPCS will declare a 1 for 2 reverse stock split and make a cash payment of $1.5 billion to its shareholders.
The deal would allow Deutsche Telekom to maintain a presence in the U.S. market while unloading much of the financial strain of having to invest in T-Mobile USA, which has been losing customers.
The public listing will also offer the potential for the new company to raise capital on its own if needed and it will also give Deutsche Telekom a more liquid asset it could sell if it wants to exit the U.S. market.
The companies agreed on a broad framework for a deal during the summer and spent the last eight to 10 weeks putting the final agreement together, according to a source familiar with the situation, who asked not to be named due to a lack of authorization to speak to the media.
Deutsche Telekom shares closed up 0.1 percent at 1438 GMT on Wednesday, in-line with a 0.2 percent stronger German blue chip index in thin trading due to a public holiday there.
The merger marks the long-awaited consolidation in the U.S. market, which is dominated by Verizon and AT&T. Sprint and T-Mobile USA take distant third and fourth places, and also compete with smaller companies, including MetroPCS and Leap Wireless.
Analysts say the deal, which awaits regulatory and shareholder approval, might force Sprint to put in a rival bid because it badly needs to grow its user base to continue to compete with Verizon and AT&T. Sprint has declined to comment.
Sprint, which has also been struggling to stem customer losses, tried to buy MetroPCS in February, but balked at the deal at the last minute because its board worried about the expense.
Sprint has never fully recovered from its 2005 purchase of Nextel, which was plagued by network integration problems and years of customer losses. It is finally planning to shut down Nextel’s network next year.
T-Mobile USA Chief Executive John Legere said Sprint’s problems have given him a perfect guide for what not-to-do.
“This is not a replay of a debacle that people have seen in the past. We will not smash together two networks with differing technology,” Legere, who will also head the new company, said on a call with analysts.
The deal, which requires approval from MetroPCS shareholders and regulators, is expected to close in the first half of 2013. The combined company, which will retain the T-Mobile name, will have 42.5 million subscribers.
If MetroPCS were to leave the deal, it would have to pay a $150 million break-up fee.
Legere, who took the top job at T-Mobile USA just two weeks ago, expects minimal customer losses during the network migration. If necessary, the company will offer customers financial incentives to move towards the end of 2015, he said.
While a stronger T-Mobile USA could pressure bigger providers to offer more competitive prices, Consumer Reports magazine said the elimination of MetroPCS could hurt competition for prepaid wireless services that are used by the country’s most price-sensitive customers.
Once Deutsche Telekom’s strongest growth engine, T-Mobile USA has lagged behind competitors in upgrading to high-speed wireless services and has been unable to get a deal with Apple Inc to sell its popular iPhone.
The new company will start with $18.6 billion in debt, of which $2.5 billion comes from MetroPCS. Analysts said that this would be a heavy load for the company. T-Mobile USA was already set to spend $4 billion on upgrading its network.
It will remain listed in New York, which analysts said would allow Deutsche Telekom to benefit from higher U.S. stock market valuations for what is effectively a T-Mobile USA spin-off.
U.S. regulators must still approve the deal, although analysts said they did not expect any major regulatory problems.
Braxton Carter, the current chief financial officer of MetroPCS, will become the CFO of the new company.
Deutsche Telekom said cost synergies from the combined company would have a net present value of $6 billion to $7 billion and, after 2017 synergies, would be worth $1.2 billion to $1.5 billion annually.
It added that it was targeting an earnings before interest, tax, depreciation and amortization (EBITDA) margin of 34 percent to 36 percent for the new company by 2017, compared with T-Mobile USA’s adjusted EBITDA margin of 27.7 percent in the second quarter of this year.
Morgan Stanley and Lazard were financial advisers to Deutsche Telekom. Wachtell, Lipton, Rosen & Katz, Cleary Gottlieb Steen & Hamilton LLP, K&L Gates, and Wiley Rein LLP were legal counsel.
J.P. Morgan and Credit Suisse advised MetroPCS, while Evercore Partners and Akin Gump Strauss Hauer & Feld LLP advised the special committee of the board of directors of MetroPCS.
Additional reporting Nadia Damouni and Liana Baker in New York, writing by Leila Abboud; Editing by Elaine Hardcastle, Jane Merriman, Mike Nesbit, Leslie Gevirtz and Andre Grenon