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AT&T Goes Long

Is SBC Communications Inc.'s (NYSE: SBC) agreement to buy AT&T Corp. (NYSE: T) really that good a deal? (See SBC to Buy AT&T for $16B.)

That question hangs in the air for AT&T shareholders. The deal calls for the swap of 0.77942 shares of SBC for each AT&T share, valuing AT&T at $18.41 per share, based on the Jan. 28 closing price. That's a 6.5 percent discount to AT&T's Friday closing of $19.71, but AT&T has pledged to make up the $1.30-per-share gap in the form of a tax-free dividend sent to shareholders once the deal closes.

Though the terms are lean, there are several positives for AT&T investors. It’s unclear what other offers AT&T might have been weighing, but the company is facing increased competition and has significant fixed costs that it can’t eliminate, like its costly employee pension program. By accepting the offer from SBC, it gives AT&T shareholders a positive outlook due to the fact that there won’t be any more share erosion.

”The hope is that SBC’s share price will go up in the future and margins will improve for investors,” says Lisa Pierce, a VP at Forrester Research Inc. She says that since AT&T had the chance to do a similar deal at a higher price, but didn’t do it, the $1.30 dividend payment could be seen as added incentive to get the deal with SBC approved by shareholders. It also helps sweeten the deal without diluting SBC share value.

AT&T has been under a microscope for some time, with many predicting that the company couldn’t survive on its own (see Can AT&T Stand Alone?). "The carrier's existing prospects weren’t great,” says Barry Sine, a research analyst at HD Brous & Co. Inc. “AT&T by itself is a company on the decline. But a merged SBC/AT&T is really going to be almost unstoppable.”

Despite being a shadow of its former self, AT&T brings a lot to the table for SBC. There's the global network. There's the long list of enterprise customers. And, if the merger goes through, AT&T will represent almost 40 percent of the free cashflow available to the combined company. Some investors have cried foul about this, as the value of the deal only gives shareholders 16 percent of the cash value. Analyst Sine points out that the benefit for them is long-term prospects. “Sixteen percent of a company with reasonable growth rate is better than 40 percent of a company with no growth prospects,” he says.

What's more, the deal will give SBC/AT&T a leadership position in the market -- a place that AT&T employees and investors haven't enjoyed for quite a while. “AT&T management has done a good job of making the best of a bad situation,” Sine says.

That's not to say the integration won't have issues. One is the staffing level. At an analyst briefing yesterday, the combined company announced that it would layoff nearly 13,000 employees, in addition to the estimated 12,000 layoffs already announced by the two companies separately. There is some concern that these layoffs will torch customers who'll have to endure less responsive service, an overextended sales force, and other headaches presented by a shrinking company.

But those hiccups shouldn't discourage AT&T investors, analysts say. If there had been no merger, AT&T might have had to file for bankruptcy down the road or, worse, it may have ceased to exist altogether, which would have led to even more job losses and share declines.

In trading today, AT&T shares were up $0.46 (2.40%) to $19.60, while SBC shares climbed $0.47 (1.96%) to $24.39.

— Chris Somerville, Senior Editor, Next-Generation Services

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