Valuation of AirThread Connections - Brief Cases
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HBS Professor Erik Stafford and Joel L. Heilprin, Illinois Institute of Technology Finance Professor and Managing Director of 59th Street Partners
prepared this case solely as a basis for class discussion and not as an endorsement, a source of primary data, or an illustration of effective or
ineffective management. This case, though based on real events, is fictionalized, and any resemblance to actual persons or entities is coincidental.
There are occasional references to actual companies in the na
ation.
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E R I K S T A F F O R D
J O E L L . H E I L P R I N
Valuation of AirThread Connections
In early December 2007, Robert Zimmerman, senior vice president of business development for
American Cable Communications (ACC), was in his office sifting through a number of investment
anking proposals related to potential acquisition targets when he paused to consider the recent
presentation made by Rubinstein & Ross (R&R).
Rubinstein & Ross was a boutique investment bank with a strong reputation for doing deals in the
media and telecommunications sector. During that meeting, Elliot Bianco pitched the idea of
American Cable buying out AirThread Connections, a large regional cellular provider. The basic
premise of the AirThread acquisition was threefold.
First, American Cable and AirThread could help each other compete in an industry that was
moving more and more toward bundled service offerings. American Cable cu
ently offered video,
internet, and landline telephony, but did not have any kind of wireless offerings. This gap in product
offerings had so far been exploited only modestly by competitors—primarily incumbent local
exchange ca
iers (ILEC’s) with wireless networks—but as those firms grow their video offerings the
problem was expected to become more acute. Additionally, American Cable saw a looming
competitive threat from advanced wireless networks based on the 802.16n standard for mobile
WiMAX. Those networks are expected to be able to deliver not only wireless telephony but also
internet service with throughput similar to that which is cu
ently offered by cable providers.
AirThread, for its part, faced similar pressures with respect to the same set of competitors because it
didn’t offer landline or internet service. However, unlike ACC, AirThread was feeling the pressure
more immediately in the form of higher customer acquisition and retention costs, plus slower
growth.
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Second, the acquisition could help both companies expand into the business market. Both firms
had customer bases that were heavily reliant on retail
esidential customers. In the case of American
Cable, this had resulted in a lack of long-term service contracts, which could have increased the
stability and reliability of the company’s revenues. In turn, this would also have had the beneficial
effect of reducing the risk associated with ACC’s operations. Furthermore, expanding into the
usiness segment would help each firm increase its network utilization and, as a result, increase its
cost efficiency.
Third, American Cable was in a unique position to add value to AirThread’s operations.
AirThread had a cost disadvantage relative to its main wireless competitors owned by ILECs. A large
portion of wireless network operating costs related to moving traffic from cell towers to central
switching offices using either landlines leased from competitors or technically cumbersome
microwave equipment. A preliminary study by Rubinstein & Ross estimated that use of American
Cable’s fiber lines could have saved AirThread more than 20% in backhaul costs.
In addition to the strategic fit, R&R believed that it could obtain a significant amount of debt
financing for an AirThread acquisition. Bianco was confident that the high quality of AirThread’s
network assets, its valuable wireless spectrum licenses, and its steady cash flow would merit a debt to
value ratio as high as 45% to 50% based on EBITDA coverage ratios exceeding 5.0x.1
American Cable Communications
In December of 2007, American Cable Communications (ACC) was one of the largest cable
operators in the United States. The company’s cable systems passed roughly 48.5 million homes and
served approximately 24.1 million video subscribers, 13.2 million high-speed internet subscribers,
and 4.6 million landline telephony subscribers. Consolidated revenue for 2007 was expected to be
$30.9 billion with net income of $2.6 billion.
Overview of Cable Industry Dynamics
The cable industry had been rapidly transforming over the last decade as a result of advances in
technology, changes in regulation, and shifts in competitive dynamics. In turn, these forces had been
driving large investments in network infrastructure that require commensurate increases in the
customer base to effectively utilize the new capacity. It was this need to acquire economies of scale
and scope that led American Cable’s executives to believe that only a handful of very large network
providers would survive into the future. The smaller companies would eventually be weeded out
through industry consolidation. As a result, American Cable became an aggressive acquirer.
American Cable’s Business Development Group
American Cable’s business development group has been tasked with the primary goal of
increasing the company’s customer base as a means to fuel both top line growth and network
utilization. From 1999 through 2005, ACC’s business development group spearheaded more than
$15.0 billion of acquisitions and, as a result, the company believed it had developed a strong
corporate finance team with significant acumen in identifying, valuing, structuring, and executing
corporate control transactions. In addition, the company also believed that its experience as an
acquirer had allowed it to develop unique operational know-how in the area of merger integration.
1 EBITDA coverage ratio is EBITDA/total interest expense.
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Furthermore, the company believed that its core competency as an acquirer would continue to
play a fundamental role in its future success. With the rapidly increasing costs of acquiring new
customers and the high penetration rates in video and high speed internet, the group surmised that
the only way to achieve meaningful customer growth would be through additional acquisitions.
American Cable’s acquisition process began with the screening of potential communications
service providers that operate in te
itories adjacent to, or within, the firm’s existing regions. Next, a
asic investment thesis was developed that outlined the acquisition benefits in terms of the strategic
fit of a target company’s assets and operations with those of American Cable, the potential synergies
from a merger, the likely price of the target relative to an estimate of its intrinsic value, and the
acquisition’s likely effect on the competitive dynamics within the industry.
After the initial screening, a preliminary valuation was done to estimate the target’s underlying
value i
espective of its cu
ent market price. The valuation techniques utilized include market
multiple approaches as well as discounted cash flow methodologies, such as WACC-based DCF and
APV. The capital structure assumptions employed were designed to mimic American Cable’s past
investment policies, which were to purchase the target with a significant amount of debt and then
pay down the debt to a sustainable long-term level that was in line with industry norms. The
company’s use of acquisition leverage was modeled after the classic LBO approach used by many
private equity firms. The goal was to use a tax-efficient structure that maximizes investor returns by
minimizing the amount of up-front equity invested in the deal.
AirThread Connections Business
AirThread Connections (ATC) was one of the largest regional wireless companies in the United
States, providing service in more than 200 markets in five geographic regions. The company’s 2007
evenue and operating incomes were expected to be approximately $3.9 billion and $400 million
espectively. The firm’s networks covered a total population of more than 80 million people. In
addition, AirThread had an extensive set of roaming agreements with other ca
iers to provide its
customers with coverage in areas where the company did not operate a network. Table 1 depicts the
company’s wireless ownership interests.
Table 1 Wireless Licenses
Operating Markets 209
Non-Operating Markets XXXXXXXXXX
Markets In Which ATC Has A Controlling Interest 218
Markets To Be Acquired Under Existing Purchase Agreements 25
Non-Controlling Investment Interests XXXXXXXXXX
Total Markets 260
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This document is authorized for use only by Devleena Ghosh in Behavioral Corporate Finance (Summer 2020) taught by DUCCIO MARTELLI, Universit?? degli Studi di Perugia from Jun 2020
to Aug 2020.
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Exhibit 2 provides additional details on the company’s customers and penetration rates by region
for its total consolidated markets and operating markets.2 AirThread also intended to continue to
expand its network operating area by participating in FCC auctions for