Verizon finds perfect partner with like-minded Alltel - Network sharing expected to reap majority of synergy-related savings

The announcement from US mobile operator Verizon Wireless earlier this month that it is to acquire smaller rival Alltel has redrawn the US mobile landscape. Most significantly, the acquisition will see the creation of a new market-leader. Based on current data, the addition of Alltel's 13 million connections to Verizon's 67 million will be enough for the merged company to overtake current market-leader AT&T, which currently has around 71 million. By our calculations, this will give Verizon a 31% share of the US market compared to AT&T's 28%. However, Verizon has been keen to portray the deal as about more than market-share: it claims the acquisition will deliver significant cost-saving, a greater network footprint and an expanded distribution channel.

Verizon is to pay a total sum of US$28.1 billion for Alltel, which includes US$22.2 billion of debt, and US$5.9 billion in cash. If approved by US regulators the deal is expected to be closed by year-end. Verizon says the business will be cash flow positive and accretive to earnings in the first year and will deliver total cost-saving synergies worth US$9 billion.

Much of these synergies relate to the two operators' shared network technologies. The company has highlighted numerous Capex savings relating to supply chain efficiencies and the elimination of redundant and duplicate facilities. Both networks currently follow the CDMA technology path; the majority of Verizon connections relate to its high-speed CDMA2000 1xEV-DO network, while Alltel's connections are mainly based on the earlier CDMA2000 1X standard. Both operators have also committed to Long Term Evolution - part of the GSM family of technologies - as their long-term network migration path. The identical network technologies means Verizon should find integrating roaming, handsets and spectrum relatively simple. However, the two networks have a very different geographical footprint. Alltel's network covers around 79 million of the US population and is largely concentrated in the rural middle areas of the country, a region where Verizon's presence is small. By 'filling in the gaps' in these areas Verizon expects the Alltel acquisition to add a further 24 million potential customers to its network reach (to 290 million in total). Verizon has hinted that this expanded network will also provide the platform for it to rollout services using its recently-acquired 700MHz spectrum.

There are also similarities between the operators' customers. Both companies focus on high-value post-paid subscribers; the merged company will command a 37% share of the post-paid market but only a 14% share of prepaid. As a consequence, monthly ARPU at both operators is at US$51 or above, higher than rival operators with a greater focus on prepaid: ARPU at AT&T is US$50.18, Sprint Nextel is US$45.26 and T-Mobile USA is US$50.00. The company says it plans to maintain its high-value customer focus via an expanded distribution network of company-owned stores that will reach 3,000 nationwide once the merger is complete. Its total distribution network will comprise 30,000 outlets.

Will Croft, Analyst, GSMA Intelligence:

In the current economic climate, Alltel’s existing owners should be happy with the price tag, which represents a profit on the US$27.5 billion they put up to acquire the business last year. But the deal is good business for Verizon too: Alltel is a significant and well-placed acquisition, complementing the second-largest US mobile network with good coverage (adding an additional 57 rural markets to the Verizon portfolio, two with EV-DO), stable ARPU and low churn. Having also snatched up a significant amount of the soon-to-be-defunct analogue television spectrum, Verizon is now set to extend its high-speed data coverage across a majority of the country. Alltel customers, meanwhile, may have some concerns that Verizon might phase out some of its existing attractive tariffs (especially the popular MyCircle plan that encompasses heavy roaming discounts). US regulators are unlikely to block the move under the current administration. However, they will undoubtedly be keeping a close eye on the merged giant as well as any further consolidation in the US market that could eliminate competition or slow future pricing decreases. Verizon could run into trouble in a few small western and south- eastern areas where they currently provide the only (or largest) competition to Alltel. In worst-case scenarios, regulators could force a sale of assets to other operators as it was forced to do recently as part of its acquisition of Rural Cellular.