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DECEMBER 13, 2004
By Steve Rosenbush The Logic Behind a Sprint-Nextel Deal A marriage won't solve all their problems, but in the cutthroat wireless market, getting bigger is the only way to survive Anyone who has followed the telecom market in recent years knows this hypercompetitive industry badly needs consolidation. The combination of high fixed costs, commodity products, and falling prices is deadly for all but the largest players. So it's not too hard to figure why the two medium-size players, Sprint (FON ) and Nextel Communications (NXTL ) are contemplating a $70 billion merger. The talks are in advanced stages, and a deal could be announced in a matter of days, according to people familiar with the matter. And while it's possible that the complex negotiations could fall apart, it appears that the two companies have found common ground on many basic issues. The deal is described as a merger of equals, one in which Sprint would trade 1.3 shares for each share of Nextel. Sprint also would contribute a relatively small amount of cash -- the actual sum is still being negotiated. That would leave Sprint shareholders with just over 50% of the company, which is necessary for tax reasons, those familiar with the matter say. That's because one company must emerge as the surviving entity to lay claim to tax-free status. LEAVING LANDLINE BEHIND. A slew of major questions about the management and operation of the resulting entity also appear to have been resolved. The talks started about six months ago but broke down over a disagreement about which of the players would be in charge, according to one investment banker. Now a compromise seems to have been reached. Sprint CEO Gary Forsee, who took the helm last year after a long career at BellSouth (BLS ) would be CEO. Nextel President Tim Donohue would be an executive chairman, taking an active management role. Corporate headquarters would be Nextel's current address in Reston, Va., while the center of operations would be based out of Sprint's current headquarters in Overland Park, Kan. The imminent deal underscores how rapidly wireless is displacing the traditional landline phone business. If the merger goes through, Sprint plans to sell off its local-phone business, which operates in small and midsize markets across the U.S. However, Sprint and Nextel would retain Sprint's fiber-optic long-distance network and enterprise business, which sells telecom services to big businesses and government agencies. THEN THERE WERE FOUR? The combination makes sense on a basic economic level. The larger company would be better equipped to handle the expenses of nationwide marketing and network upgrades that pave the way for advanced services like high-speed mobile Internet access. Both companies' shares have increased since The Wall Street Journal first reported the talks on Dec. 9. Sprint rose 27 cents, to $24.55, on Dec. 10. Nextel shares were up 30 cents, to $30.11. However, a merger won't solve all the problems confronting either outfit. Nextel, a pioneer of walkie-talkie-like services for cell phones, needs to upgrade to a new technology. But integrating the two companies' systems would probably wait until a new and faster version of Sprint's CDMA (code division multiple access) technology hits the market in a few years. Until then, Nextel might have to operate as a separate network and brand, one person familiar with the talks said. That would make it difficult to quickly reap all the rewards of a combination. In the meantime, the decrease in the number of industry rivals from five to four might reduce all players' drive and incentive to cut prices. Then again, maybe not: The continued existence of just three players in the long-distance phone market has been enough to spur withering price wars -- a strong argument why federal regulators would be unlikely to try blocking Sprint-Nextel on antitrust grounds. DAUNTING CHALLENGE. The big question is whether competing bids for either company will emerge. Verizon (VZ ) has long been rumored as a possible Sprint suitor. Verizon Wireless and Sprint share the same technology. A Sprint acquisition also would be a rich source of spectrum for Verizon, which will need more capacity as its network grows and as it develops more advanced services. And it's possible that Vodafone (VOD ), a minority partner in Verizon Wireless, could go its own way and acquire Nextel or Sprint. Still, a bidding war is far from inevitable. Verizon just acquired $3 billion worth of spectrum from Nextwave, and it could pick up still more in upcoming federal auctions (see BW Online, 12/6/04, "Elbowing for Wireless Airspace"). Verizon is growing quickly on its own and may not feel much pressure to do a deal. It didn't jump into the fray when Cingular acquired AT&T Wireless, displacing Verizon Wireless as the largest U.S. mobile carrier. The combination of Sprint and Nextel would rank only No. 3. And Vodafone would hardly find Nextel or Sprint a sufficiently competitive platform in the U.S. Even the combined companies will face a big challenge keeping up with Verizon and Cingular. A merger won't instantly ease all the competitive challenges facing Nextel and Sprint. But the combination doesn't need to be perfect to work, and it's clear that the two companies are at greater disadvantage on their own. Given the size of their rivals, they need to do something -- and this may just the thing.  Rosenbush is a senior writer for BusinessWeek Online in New York Edited by Beth Belton
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