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>From, Wednesday, April 17, 2002

BCE should just walk away from Teleglobe


Could the safety of BCE’s dividend be determined by a few telecommunications executives in Bonn?

Bonn is the home of Deutsche Telekom, Europe’s biggest phone company. Deutsche Telekom, like France Telecom and other European rivals, blew its brains out making overpriced acquisitions and buying overpriced wireless licences in the past couple of years. For its sins, it is expected to sell assets at a discount, one of which may be VoiceStream Wireless of the United States, which it bought near the height of the market a year ago for a lofty $30-billion (U.S.).

VoiceStream is the subject of much speculation at the moment. Just about everyone in the telecommunications industry — executives, analysts, fund managers — expects the profitless wireless sector to consolidate; the six big players probably will shrink to four or three. One of the companies that is expected to do the consolidating is SBC Communications of Texas, which controls Cingular Wireless, the second-biggest name in the business. Recently, Edward Whiteacre, SBC’s CEO, said the “wireless industry is ripe for consolidation,” adding that mergers will “probably begin some time this year.”

VoiceStream, whose parent company is anxious to reduce debt, would seem a natural candidate for the auction block. It also uses the same technology — GSM — as Cingular, making the two natural partners.

This is where BCE might enter the international portfolio shuffle. SBC owns 20 per cent of BCE’s Bell Canada unit and has the option to “put” it back to BCE at fair market value plus 25 per cent. The option opens in July and closes at the end of December. It reopens during the same period in 2004.

SBC has not revealed whether it intends to exercise its Bell Canada put, but the body language suggests it will. It is on record saying consolidation is coming and, as one of the stronger names in the industry, the expectation is that it will prey on the weak — VoiceStream or possibly AT&T Wireless (which also uses GSM technology). To do so, it would have to raise a lot of money in a hurry. As luck would have it, it has a piggy bank north of the border.

Stagnant ownership rules are another reason why SBC might exercise its put option this year. Last autumn, there was talk that the foreign ownership cap, currently at about 47 per cent, would be relaxed or eliminated. Since then, momentum to overhaul the ownership legislation has stalled. Part of the problem, it appears, is differing agendas. The cable companies would like to see the restrictions watered down. Bell Canada, though, is sending out mixed signals. In theory, it would like easier access to foreign capital. In practice, it would fear losing its independence. If SBC comes to the conclusion that it will have no opportunity anytime soon to leverage its minority interest in Bell Canada into a control position, it might just head for the exit.

Putting aside one nagging question — what was BCE thinking in 1999 when it agreed to give Ameritech, now part of SBC, the right to cash out at a fat premium? — the issue is how much financial damage SBC’s put option could inflict on BCE. Assume “fair market value” translates into a sale price of six times Bell Canada’s EBITDA (earnings before interest, taxes, depreciation and amortization). That would value SBC’s 20-per-cent stake in Bell Canada at $5.2-billion (Canadian). Add the 25-per-cent premium, and you’re up to $6.5-billion. If you assume Bell Canada is worth seven times EBITDA, the total price rises to $8.1-billion. That’s a lot of money, even for a company the size of BCE.

BCE wouldn’t necessarily have to give SBC cash immediately. It could issue a promissory note, but that would only delay the inevitable. A promissory note is a form of debt. Add this to the impact of consolidating 100 per cent of Bell Canada’s debt and all of a sudden BCE is up to its call centres in leverage, which in turn would put its debt ratings under pressure. In the end, paying cash or issuing promissory notes are equally unappetizing.

The bigger question, though, is whether BCE wants to risk dealing with another crisis — figuring out how to pay SBC — when it’s in the middle of an ample one in the form of Teleglobe. Teleglobe is a genuine meltdown and the banks and bondholders are gearing up for a fight to recover about $2.5-billion (U.S.) in debt. So far, it appears that BCE is willing to make some sort of offer to the debtholders. Even if it’s only 20 cents on the dollar, that’s $500-million, not to mention the funding requirements to keep Teleglobe’s capital expenditure program alive.

Would BCE be able to afford to satisfy the Teleglobe debtholders, fund Teleglobe, pay off SBC and still pay its 5-per-cent dividend?

Unlikely. Something would have to give. BCE should assume that SBC will exercise its put option this year and make plans accordingly. Eliminating one expense — Teleglobe — by walking away from it seems the sensible solution.

ereguly [at] globeandmail [dot] ca

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