will this reach $55.00 - from the G&MInvestors win in MTS endgame
Globe and Mail
April 13, 2006
Byline: Eric Reguly
There is one big play left on the otherwise tweaked, merged, massaged and overhauled Canadian phone market. It is, or course, Manitoba Telecom Services. One way or another, MTS is a goner. The question is whether the Winnipeg boys will bust up the company or whether Bell owner BCE or Telus, separately or together, will do it for them. As the prairie drama unfolds, shareholders stand to win.
For MTS, the beginning of the end unofficially starts on May 2. That's when the deceptively mild-mannered Jim MacDonald, the Enterprise Capital chief who looks like an unmade bed, joins the board. For him, it's vengeance time.
About three years ago, Enterprise, which then owned (and probably still owns) about 5 per cent of MTS, put pressure on then chief executive officer Bill Fraser to convert the company into an income trust. Mr. MacDonald was happy because Mr. Fraser seemed a trust advocate. At one point, he said: "We do align, I think, very strongly with that model."
If it was a feint, it worked beautifully. Instead of converting, Mr. Fraser bought Allstream, the former AT&T Canada, for $1.7-billion. That was in early 2004 and the stock has never recovered. Before the Allstream purchase, MTS traded as high as $52.75. A few months ago, it dipped below $37. The bust-up speculation has since lifted the stock to about $43.
Why Mr. Fraser went for Allstream, which generates negative free cash flow (estimated 2006 profit less capital spending, restructuring costs and pension funding) is a mystery. Perhaps he heard BCE's footsteps and wanted to make MTS a less attractive takeover target. If so, it worked. Perhaps he thought MTS as company, not a trust, had greater potential for growth. That didn't work.
Never mind. Mr. Fraser hit the road last autumn. The point being, his absence removes a big potential obstacle to an MTS restructuring or sale. We note his successor, ex-Bell boy Pierre Blouin, comes loaded with 450,000 MTS options at an exercise price of $40 and change. Might he be motivated to "surface value," to use the Bay Street cliché? Indeed, the announcement of a "strategic review" was one of his first moves. You can bet he and Mr. MacDonald are reading from the same playbook.
Analysts have flooded the research market with notes tallying up the theoretical value of a dismantled MTS. TD Newcrest has a $50 target on the stock and thinks MTS's breakup value could reach $55. UBS Securities predicts $50. Merrill Lynch's figure is $47, assuming a trust conversion, and a lowly $41 if Blouin MacDonald & Co. get lazy and do nothing.
Something will be done -- Mr. MacDonald, who knows a thing or two about restructurings, will ensure that. But when, and to what extent?
What investors may not realize is that fixing MTS's pension problem alone would surface a lot of value. At the start of 2006, MTS's pension hole was $400-million deep. There is a good chance it can be reduced, even eliminated, if, for example, the government pension funding formula is changed or if interest rates keep rising. If the pension was fixed, less cash would have to be diverted to it. That would leave the company with surplus cash flow, which would give investors more confidence in the sustainability of the dividend (current yield almost 6 per cent). Or it might allow MTS to boost the dividend.
In theory, the restructuring of MTS could start and stop with the pension plan. Something far more ambitious is likely. MTS's directories business could be sold to Yellow Pages or turned into an income trust. The wireless business, potentially worth as much as $1-billion, could be sold. Telus, Bell and Rogers would be tempted to compete for that juicy target.
Allstream, equipped with tax losses that could be used to offset the buyer's profits, could be sold in whole or in parts. Certainly, every rival phone company wants it gone because the enterprise market, where Allstream operates, is brutally competitive. Finally, the stodgy old land-line business could be turned into a trust.
If it sounds complicated, that's because it is. There is little doubt a bust-up could wring more value out of MTS. But the time and effort required would be formidable.
So here's a guess. MTS will start down the restructuring road, perhaps with the sale of the directories business or its transformation into a trust. The stock will rise. Telus and BCE will pay attention and ask the question: Should we let MTS surface all this value, or should we just buy the brute and surface it ourselves? If BCE bid, and won, it could zap MTS's land-line division into its own land-line trust. Telus might love Allstream's tax losses and infrastructure. Buying it would save Telus the expense of having to build more of its own.
Investors have an easier decision, which is essentially no decision. The worst seems over for MTS shares. Hang in and watch the final phase of the industry consolidation game take place.