Private equity firms and M&A operations are constantly trying to find dislocations between where the stock market values a company and how it might be valued if it were broken into pieces. The new, independent units could be sold to related companies or traded on the exchange as several companies instead of one.
There are several ways to value companies by looking at their parts. About a year ago, investment bank Lazard did this for Carl Icahn, a large holder of Time Warner. The report ran 371 pages. Valuations were based on analysis of comparable companies, discounted cash flow, and recent M&A transactions for related firms.
Sprint (S) is a company that trades at a little over $17, near the bottom of its 52-week price range of $26.89/$15.92. The company has a market cap of $50 billion which is about 1.1 times its current annual revenue run rate.
By some measures, the company does look cheap. Its price-to-book is less than 1. The average from Sprint’s industry is 3.1. Its price-to-cash-flow ratio is 3.9 compared to 9 for the industry. The company is clearly hurt by the perception that it management is inept and that the integration of NexTel has gone poorly driving down subscription growth compared to its major competitors Verizon Wireless and Cingular. Sprint also has long-term debt of about $20 billion.
If Sprint’s debt is subtracted from its market cap, the remaining value is $30 billion, about .7x sales.
Sprint has two operations. Wiresless phone service is one. That business has revenue of about $36 billion a year. The long distance part of the company has annual revenue just shy of $6.5 billion.
The largest wireless company in the world, Vodafone (VOD), has a market cap of $168 million or about 2.8x sales. If the market cap is adjusted downward for debt and cash, its value moves to $140 billion. That would take the valuation down to 2.2x revenue. That would give Sprint’s wireless unit a value of $79 billion.
For the long distance unit, the most comparable company is probably Qwest (Q). The long distance company has a market cap of $16 billion. Taking into account debt, cash, and the difference between payable and receivables, Qwest’s value would have to be knocked down by about $12 billion, making its multiple of value to sales .3x. If this multiple is applied to Sprint’s long distance business, it yields a value of about $2 billion.
Based on this break-up analysis, Sprint’s market cap would be about $81 billion. That is $27.50 a share.
By that measure, Sprint is undervalued.
Douglas A. McIntyre can be reached at [email protected]. He does not own securities in companies that he writes about.
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