What Options Does Dish Have If T-Mobile Goes With Comcast?

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Dish Network (NASDAQ:DISH) is reportedly discussing a merger with wireless operator T-Mobile (NYSE:TMUS). The potential merger looks like a win-win situation for the companies, with T-Mobile getting Dish’s wireless airwaves to expand coverage and capacity and Dish getting a good opportunity to put its spectrum to use and enter the wireless business. However, there is a lot of uncertainty surrounding this deal, with T-Mobile’s biggest shareholder Deutsche Telekom giving vibes that it isn’t as keen to sell to Dish. In this piece, we discuss what other options Dish could explore if negotiations with T-Mobile go south.

Our price estimate for Dish stands at $80, implying a premium of about 10% to the market.

See our complete analysis for Dish Network

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T-Mobile Could Sell To Comcast Instead Of Dish

The Wall Street Journal reported at the start of the month that Dish was in talks with T-Mobile about a merger. [1] The report stated that both sides were in broad agreement over the structure of the combined entity, but other major details such as purchase price and cash-stock mix were still unresolved (read our take on the deal – Merger With T-Mobile The Right Step, But Dish Needs To Speed Things Along). However, Deutsche Telekom doesn’t seem excited about this deal, with its Chief Executive Timotheus Höttges reportedly stating that he favors Comcast (NASDAQ:CMCSA) over Dish as a potential partner for T-Mobile. [2] Further reports of Comcast engaging in talks with Deutsche Telekom regarding a potential sale have also added to the speculation that Comcast might be a genuine contender for T-Mobile. [3] On the other hand, reports citing a source familiar with the situation have also surfaced claiming that Comcast is not interested in buying T-Mobile. [4] Comcast, for its part, has been quiet on the situation.

One of the primary reasons that Deutsche Telekom is not in favor of selling to Dish is that the German telecommunications company is looking for a deal with a larger cash component. Dish paid out around $8.7 billion in AWS-3 FCC license deposits last quarter and has around $14.4 billion of debt on its balance sheet. [5] This severely weakens Dish’s ability to pay cash for the T-Mobile deal, which means a potential acquisition would likely include a larger stock component. On the other hand, Comcast has enough firepower to better satisfy Deutsche Telekom’s demands. Comcast also has a strong incentive to acquire T-Mobile, as an assimilation of T-Mobile’s operations would add wireless services to Comcast’s business, allowing the company to offer a quadruple-play bundle. This could help Comcast compete effectively with the proposed AT&T-DirecTV combination in a market where the boundaries between wireless and cable/online video are blurring (read in detail – Could T-Mobile Ditch Dish Network For Comcast?).

What Options Would Dish Have Then?

Dish Could Sell Its Spectrum

There is a looming spectrum crunch in the U.S. wireless industry given the increasing data needs of mobile customers. Growth in smartphones and tablets along with improved wireless data speeds has stimulated data usage, and wireless carriers have been investing in their infrastructure to address this need. Accordingly, the spectrum Dish is sitting on is already extremely valuable and will likely only go up. Dish currently owns licenses to more than 80 Megahertz (MHz) of spectrum, and we estimate the pre-tax fair value of Dish’s spectrum holdings to be around $39 billion (see our calculation methodology here).

As far as Dish is concerned, a spectrum sale would boost the company’s cash balance. However, it would leave the satellite company operating in a saturated pay-TV market with no other major growth driver. Other pay-TV operators have alternative growth engines: Comcast and Time Warner Cable (NYSE:TWC) have high-speed internet segments, while Dish’s satellite rival DirecTV (NASDAQ:DTV) has a significant presence in the Latin America pay-TV market (not to mention the proposed deal with AT&T).  The U.S. pay-TV market is saturated, with pay-TV penetration currently at around 84% of all TV households. Given the saturation level and the sluggishness in the housing market, we are unlikely to see a significant increase in the number of the U.S. pay-TV subscribers. Additionally, alternative video platforms such as Netflix (NASDAQ:NFLX) are adding to the woes of pay-TV operators. This leads us to conclude that selling the spectrum may not be the best idea in the long term.

Dish Could Look For Other Partners

Dish ultimately wants to compete better in a saturated market by arming itself with a viable bundling option such as pay-TV with wireless. In order to build a wireless service, it can either use third party infrastructure through a partnership/acquisition or build everything on its own from scratch. The latter option is more risky, since Dish has no experience in this field and additional capital expenditures could lead to investor skepticism. The company’s best bet is to partner with a carrier that already has an operational network. In a scenario in which T-Mobile decides to go with Comcast, Dish’s next logical target would be Sprint (NYSE:S). With more than 56 million subscribers and $34.5 billion in revenue, Sprint offers Dish a path to bundle wireless services with its pay-TV services. [6] In terms of market cap, Dish is over 1.8x more valuable than Sprint.

Although Sprint has struggled to attract wireless subscribers in recent years, it is showing signs of improvement – both in terms of overall subscriber gains and country-wide network quality. In a bid to further improve its network, the carrier recently announced that it had received approval from its majority shareholder SoftBank for its new network modernization plan. [7] The plan, which will involve improving the carrier’s coverage and network speed, will likely require billions of dollars in capital expenditures as well as potential spectrum purchases. However, this costly plan will put a great strain on the company’s already-weak financial position. Sprint’s overall revenues declined almost 7% year-over-year in Q4 FY14 as users shifted to discounted service plans. In terms of income, the carrier reported a net loss of $224 million, or 6 cents per share, compared to a loss of 4 cents per share in the prior year quarter. It currently has net debt of over $28 billion and has not reported positive free cash flows in the last two years. With SoftBank’s financial backing and the possibility of efficient bundling of different services with Dish, Sprint could possibly turn around its fortunes earlier than expected.

Why Dish Needs To Choose An Option Soon

Dish’s spectrum licenses are subject to certain interim and final build-out requirements by the Federal Communications Commission (FCC). Dish must provide reliable signal coverage and offer service to at least 40% and 70% of the population in each area covered by the AWS-4 licenses by March 2017 and March 2021, respectively. [8] Dish’s license authorization can be terminated in any area in which it fails to meet these build-out requirements. However, Dish has not even begun building out coverage in any of these areas as of now. If Dish fails to reach a deal and does not develop its own network, there could come a time when the FCC clock runs out. In that scenario, the company might have to sell at a discount or, even worse, relinquish the spectrum to the FCC.

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Notes:
  1. Dish Network in Merger Talks With T-Mobile, WSJ, June 4 2015 []
  2. T-Mobile’s biggest shareholder not interested in Dish merger, June 8, 2015, New York Post []
  3. Deutsche Telekom talks to Comcast about T-Mobile US sale: Manager Magazin, June 17, 2015, Reuters []
  4. UPDATE 1-Comcast not interested in buying T-Mobile -source, June 17, 2015, Reuters []
  5. Dish Network’s SEC Fillings []
  6. SPRINT REPORTS RESULTS FOR FOURTH FISCAL QUARTER OF 2014, Sprint News Release []
  7. Sprint Secures Plan to Modernize Its Network. But at What Cost?, Re/Code, June 2015 []
  8. Dish’s SEC Filings []