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GTE Bids Cash for MCI
by Dale Wettlaufer (TMF Ralegh)
October 15, 1997

This Feature

11/05/96: MCI/BT to Merge
07/11/97: MCI Calls For Help
10/01/97: The Danger to MCI?
10/03/97: WorldCom Bids for MCI
WorldCom Message Board
MCI Message Board
GTE Message Board


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Gee! No, GTE. Integrated telecommunications company MCI COMMUNICATIONS CORP. (Nasdaq: MCIC) gained $1 5/8 to $36 15/16 after a "GTE advisor," according to most accounts, floated a trial balloon on GTE (NYSE: GTE) making a $40 per share all-cash offer to acquire MCI. That's a buck-and-a-half per share below the valuation WORLDCOM (Nasdaq: WCOM) has put on MCI with its all-stock offer. What good is that, right? Ahhh, but unlike the stock swap WorldCom has proposed to MCI, a cash offer doesn't carry a "collar" (a limit to the number of shares to be traded if the price of the acquiring company's stock goes above or below a certain level) and the the value of each dollar offered isn't going to change unless there's a world currency crisis sometime soon, which is doubtful. MCI shareholders, therefore, are torn between two lovers, one with hard currency (GTE) and the other with a very valuable stock to swap (WorldCom).

The GTE bid makes sense for MCI in the same way that the WorldCom bid makes sense: adding together two sets of assets strengthens each individual piece. With 20 million+ local access lines, GTE would offer MCI significant cost savings in its bid to add to its currently limited presence in the local loop. In internet access services, GTE's fairly sizable presence in internet dial-up lines and midband to broadband access connectivity (with its acquisition of BBN Corp.) provides the same sort of attractiveness to MCI as WorldCom does. MCI, for its part, brings to the party a massive presence in maintaining critical points of the internet's backbone at 18 major nodes, as well as numerous metropolitan area fiber networks, 500 internet POPs, its global fiberoptic lines and partnerships, and transcontinental OC-48 fiberoptic runs. (Whew!) In addition, GTE would also contribute five million wireless customers in major metropolitan markets, which is a not-inconsequential selling point when representatives from the combined company are out selling an integrated package of telecom services. On an asset basis, the deal between GTE and MCI fulfills as much as the proposed merger between WorldCom and MCI the idea of the "integrated telecommunications carrier," which we discussed in last week's Industry Snapshot.

Financially, the GTE cash leaves a lot more room for error, which WorldCom's shares do not, trading at 32 times trailing 12-months' cash flow (earnings plus depreciation and amortization plus extraordinary charges). Meanwhile, GTE's shares trade at a price/cash flow multiple under 7 times, or less than 25% of the multiple on WorldCom's shares. In a cash offer, nobody's going to undermine the value of the currency that GTE is offering. If WorldCom runs into one small glitch in its execution or strategy, its stock stands to lose value pretty quickly. In addition, whereas we talked about the great deal that WorldCom shareholders would be getting from the massive accretion to cash flow per share in the MCI deal, that means that MCI shareholders would suffer sizeable per-share cash flow dilution.

It would not be surprising whatsoever to see WorldCom come back and up the number of shares it's offering to acquire MCI. After all, it can offer somewhere in the neighborhood of 700 million to one billion more shares than are currently on the table before the deal become dilutive to year-forward cash flows per WorldCom share. Given this, Bernie Ebbers at WorldCom has the ability to increase the offer, but will he? At the moment, the terms are very much in WorldCom's favor, as it is using very highly valued stock to acquire something that is, in the opinion of many telecom followers, undervalued on a cash flow and assets basis. Also playing in WorldCom's favor, as it currently stands, GTE's $28 billion cash offer would leave somewhere in the neighborhood of $45 billion in long-term debt (after selling off some unproductive assets) on the balance sheet of the combined GTE/MCI. Ebbers can argue that that's an ugly number to have lying around the house. The WorldCom CEO is a deal-maker, and there's more than enough room for him to increase the value of WorldCom's offer and keep MCI employees and management, individual investors, and institutional investors, happy.

[For a Windows Excel 5.0/7.0 spreadsheet on this sector, including GTE, MCI, WorldCom, BELL ATLANTIC (NYSE: BEL), SBC COMMUNICATIONS (NYSE: SBC) and FRONTIER CORP. (NYSE: FRO), from last week's Industry Snapshot, feel free to send an email to DWettlaufer@fool.com).

 

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