What AT&T Purchase of T-Mobile Means

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What AT&T Purchase of T-Mobile Means

Today, AT&T announced it was purchasing T-Mobile from Deutsche Telecom generating a combined entity with 130 million wireless subscribers producing $72.2B per year in revenue. While AT&T had an exclusive contract with Apple to sell iPads and iPhones it could rely on organic growth but now that Cupertino decided polygamy was more lucrative and Google’s Android is unleashing a torrent of cool devices on all networks, the challenge for carriers is to figure out how to compete effectively in a world where differentiating based on device is more difficult.

iPhone and AT&T’s Network Quality Perception

AT&T took a beating while being the exclusive home of the iPhone and was ridiculed on programs from The Daily Show to Saturday Night Live for selling device which couldn’t effectively make phone calls. So in order to combat this perception the company is spending $39B to purchase T-Mobile and by doing so expand its reach by 46.5M Americans meaning it can reach 95% of the population or about 294M people. In theory this move means less dropped calls for all AT&T customers.

EBITDA-Based Rationale

For a number of years AT&T was in the driver’s seat as the exclusive US carrier of Apple phones and during that time it was able to generate more revenue and profit per subscriber as it didn’t have to compete so much on price like T-Mobile and Sprint. This is why postpaid customers (those who pay the bill after they receive it in the email) pay AT&T $62.57 per month while over at T-Mobile the number is lower at $52. More telling is the fact that the EBITDA margin at AT&T is 40.7% as opposed to 29.2% at T-Mobile meaning we have two companies which don’t have the best network quality reputations and who provide commoditized services and one makes more than 33% profit than the other.

From AT&T’s standpoint the timing couldn’t be better as the company has had years to weaken T-Mobile as a competitor while maximizing its own share price in the process. To maintain momentum, it purchases a carrier with the same network technology – GSM meaning minimal disruption in terms of jerry-rigging disparate wireless technologies.

The hope for AT&T is the combined network will improve the image of either network individually by increasing coverage area and decreasing dropped calls. This in turn will theoretically help keep churn low – currently at T-Mobile this number is 3.4% while at AT&T the number is far lower at 1.31%

The Future of Communications and Competition

The money in the communications space is certainly in the wireless market and the top priorities at Verizon and AT&T are well-known to be wireless, wireless and more wireless. And this in turn means that traditional broadband providers such as those in the cable space need to find a way to have an effective wireless strategy.

This move makes the position of the entire cable market and other broadband providers that much worse. There is one less wireless asset available at a reasonable valuation.

And for AT&T, their solidified position will allow them to sleep more comfortably at night while they do their best to hold onto their customers as they consider switching to Verizon when their contracts end.

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Just How Fast is Wireless Growing?

To give you an idea of how fast the wireless market is growing consider that AT&T believes total data volumes will increase 8x-10x over the next five years after growing 8,000% in the past four years. The reasons are obvious but AT&T does spell them out – cloud, LTE, 4G, accelerating app explosion, connected devices, M2M, mobile business, remote health monitoring and more.

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Will it Be Allowed?

If the alarm bells didn’t sound before you heard about AT&T gaining more marketshare, after reading its own documentation supporting the deal you would walk away confused. Typically when I get ahold of documents touting synergies in an acquisition they drone on endlessly about how good the deal will be for the purchasers and customers. They never mention how good the competition is.

But in AT&T’s case there are entire slides dedicated to the competition and how good they are and how much potential they have to be strong competitors. In fact 11 slides out of 28 (PDF) talking about the deal are dedicated to how much competition there is and how strong the competitors are. It is a preemptive strike against those who will cry foul and say this deal should be stopped on the grounds of it being anti-competitive.

For example on one slide (PDF) it details all the competitors and how great they are – for example, Sprint/Clearwire is in the number one spectrum position and LightSquared expects to cover 260M people with its wireless network. Another slide (PDF) details how in many major cities such as New York, Los Angeles, Miami and others, there are currently five or six wireless service providers.

No More Spectrum?

Perhaps a bigger concern here is where the additional spectrum will come from. I spoke about this problem recently with former FCC Chairman Kevin Martin before his keynote in January at ITEXPO and he mentioned there is no simple answer to the problem. AT&T acknowledges the problem (PDF) as well and says both it and T-Mobile are facing impending spectrum exhaust challenges in NYC and other major markets. The chart below details which carriers hold what amount of spectrum.

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The combined company should be better able to weather short-term spectrum challenges and in fact the map below shows how the combined company will be rolling out 4G to larger parts of Texas for example.

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Conclusion

AT&T has certainly been successful at merging dozens of companies with a high level of smoothness and obviously their bending to the will of Steve Jobs to get the iPhone exclusive showed they were more forward-thinking than Verizon at the time. For T-Mobile employees and customers this move is a good one as they can now upgrade to Apple and other AT&T products without having to deal with switching carriers. For existing AT&T customers this move is good as they will have increased coverage and theoretically faster performance.

From a carrier investment perspective this move is a plus as there is one less weak carrier to slash prices meaning there is more predictable ROI on the multibillion dollar investments which must be made.

For the competitive environment this isn’t a plus. It seems all broadband providers will need a wireless offering of some kind in the future and there is one less wireless carrier to purchase as of today.

Like any other acquisition there will be many winners and losers but it seems AT&T made a very smart move here as they look to take advantage of the booming wireless and forthcoming 4G space.

To keep up with the latest in the communications regulatory environment be sure to attend the Regulatory 2.0 Workshop hosted by Hosted by Pillsbury Shaw Pitman, April 12th, 2011 in Washington, DC.



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