Sometime between now and May 25, every holder of AT&T (NYSE: T) common stock will have to make a decision: Should I tender my AT&T shares for AT&T Wireless (NYSE: AWE) shares?
Great question. Unfortunately, it's not so simple as to allow us a yes or no response. 'Course, that would make for a nice, short article for the Otter on this beautiful May day....
OK, I'm focused. Here's the deal: AT&T has made a tender offer -- which means it will be a tax-free exchange -- to its shareholders that will give them 1.176 shares of AT&T Wireless in exchange for each share of AT&T. At present, that represents about a 3% premium for AT&T shareholders (the share value of that much AWE was 3% more than that of T as of yesterday) but the percentages continue to fluctuate.
There are a myriad of things going on with AT&T right now, so even though the company issued a 159-page prospectus to go along with the exchange offer, there really is no clear-cut way for shareholders to make the decision. As announced last October, AT&T will be breaking into four separate entities: AT&T Wireless, which is currently a tracking stock, AT&T Broadband, comprising of the company's cable assets, AT&T Business, which will hold the enterprise and networking components, and AT&T Consumer, the current consumer long distance assets.
AT&T will also complete its spin off of another tracking stock, Liberty Media (NYSE: LMG.A), though AT&T investors will not receive any Liberty Media shares. AT&T anticipates that the full separation will take place later this year.
AT&T is essentially breaking up because a strategy of de-emphasizing long-distance voice communications by acquiring other communications services, initiated in 1998, has been a resounding failure. The company's underlying motivation was right, as long distance has degraded as a business even faster than anticipated -- rates have fallen as much as 90% for some international routes.
But this simple reality spelled doom for AT&T's plan, as long distance spun off much less cash than originally hoped and made its debt obligations unwieldy. Some of the debt will be taken care of by AT&T's sale of its Japan Telecom stake and the cash raised in the IPOs of its various groups, but much of it will be passed on to the new companies. Of them, AWE will be saddled with the least debt, because it did not generate much debt in the first place.
So that's your answer, right? Go where the debt ain't. Not so fast. There are several other considerations.
- Items in favor of the exchange to AWE:
Separation from all that debt;
Separation from the slower growing components of AT&T;
Concentrated investment in a single company;
Tax-free transaction; and
A slight premium to AT&T shares.
- Items against the exchange to AWE:
No participation in other spinoffs;
Lack of earnings history; and
Lack of dividend.
- Items in favor of retaining AT&T:
Still will get some AWE when final spinoff is completed;
Will retain dividend;
Will receive stock in all of the current AT&T businesses (except Liberty); and
Significantly lower risk.
- Items against retaining AT&T:
Holdings will still be saddled by debt;
Higher transaction costs for eventual sale through the dilution to four companies from one;
Much slower growth, higher capital costs; and
Passing up the premium.
I broke this out in the above fashion so Fools could look at it from whichever way they are leaning.
Clear as mud, right? Well, you need to ask yourself why you hold AT&T in the first place. In other words, why are you here, and what will change when the breakup is complete?
Here are some possible scenarios:
1) AT&T owner for 20 years, 70 years old, with 5,000 shares
This investor holds stocks mainly for their cash returns, since she is now retired. In no way should this person take the tender, because AWE is a significantly less diverse company and the risk for capital loss is much higher. AWE also does not offer a dividend and is unlikely to do so for some time, as it does not yet produce much free cash flow due to big capital requirements. By passing on the offer, this investor will end up receiving some AWE anyway when the spinoffs are completed -- likely around 1/3 share for each T share -- so she is not "missing out" on AWE.
2) AT&T holder for three years, 45 years old, with 1,000 shares
This guy bought the full-service communications provider story hook, line, and sinker, and has suffered as AT&T has failed to execute. There is some likelihood that the components of AT&T will perform better than the whole, but he doesn't feel as positive about long distance as he does about wireless and broadband. Although he misses out on the AT&T Broadband stock, he may be better off taking the tender and looking to buy a broadband leader with other capital -- maybe a Qwest (NYSE: Q) or an AOL Time Warner (NYSE: AOL).
He could even wait for the AT&T Broadband spinoff and buy some of that later. By taking the tender, he is concentrating a holding in a good wireless company, tax-free. He's not likely to miss the dividend.
3) Drip investor, 30 years old, with 55 shares
This person may want to take this tender as well, depending on his holding time frame. If he has an intention to sell in a few years, he needs to recognize that he is being set up to take four separate transactions. As AWE does not pay a dividend, he will also be unable to Drip into some of the higher-growth portions of what is now AT&T. People who hold fewer shares will see their transaction costs go up a bit because they must deal with four companies rather than one. At the same time, if this person is going to be holding for an extended period of time, holding multiple stocks doesn't matter so much.
Naturally, most people are going to fit somewhere in between these examples. This being the case, your decision is going to have to take in all of the benefits and the drawbacks. Do you like wireless best? Take the deal. Networking and broadband? Don't take it, and get your pieces of a series of pretty good businesses.
Although AT&T may have goofed along the way on execution, its management did exactly the right thing in 1998. This was a company that was highly dependent upon revenue from a dying business, and that AT&T is not dried up and blowing away now is a testament to the good decisions Michael Armstrong and his team made three years ago.
Had they failed, AT&T would now be trying to sell buggy whips in a horseless carriage world -- and shareholders would be left holding the bag.
Interested in digging deeper as you look at companies like AT&T? Check out our Evaluating Companies online seminar.
Fool on!
