In Telecom, Three's Company

Four just doesn't quite make it

The Canadian government signed off on Rogers Communications’ controversial merger with Shaw Communications this week. As a condition, they required Shaw sell its wireless phone unit Freedom Mobile to Quebecor Inc.

Regulators’ reasoning: Canada needs four national wireless communications companies to ensure consumers and businesses good service at low rates, particularly as 5G service becomes the norm.

They’re hardly alone in that belief. Even with a 3-2 Republican majority during the Trump Administration, the US Federal Communications Commission required T-Mobile US to sell off certain assets to DISH Networks as the price of merging with Sprint.

Regulators in the European Union have if anything been even more insistent on the four wireless carriers “rule.” Even as Canada approved Rogers/Shaw, the EU announced an “in-depth” investigation of the proposed tie-up between local player Masmovil Ibercom and the Spanish operations of France’s Orange SA.

Spain’s market is considered one of Europe’s most competitive market with literally dozens of carriers and frequent price wars. And companies routinely report losses operating there, with the result the country lags in investment.  Nonetheless, the European Commission charged this deal between the country’s second and fourth largest wireless companies “could potentially eliminate innovation and lower quality of services.”

The betting here is the EU will allow the transaction. But as with recent rulings on M&A in the US and Canada, it will impose conditions that dilute the benefits of consolidation.

They needn’t bother. Mainly, communications is a business that rewards scale. Bigger companies have the resources to build faster networks with higher capacity.

Consumers and businesses want a fully digitized world where you can instantly download or upload anything? Then we need companies big enough to plan, permit, fund, build and operate the networks. And a job that once required millions of dollars now requires tens of billions—every year.

Having more competitors can keep rates low for a time. But in the long run, three has proven again and again to be the magic number in communications. Fourth competitors—however much politicians and regulators want them—simply aren’t viable.

Take the example of former US wireless carrier Sprint. The company was frequently referred to as a “carcass” for its rivals to feed off before it merged with T-Mobile.

Or take DISH Networks, the recipient of wireless assets sold by T-Mobile to close the Sprint merger. Led by enigmatic Co-Founder and Chairman Charles Ergen, the satellite television attempting to go wireless service provider has been frequently touted as the US’ new fourth carrier—with a plan to build an asset-light/”net-centric” 5G network utilizing partnerships with tech giants like Amazon.com.

Over the last 12 months, DISH stock has dropped by more than -70 percent. It’s no surprise that revenue is declining sharply at the legacy satellite television business, given the availability of much faster networks. But the company’s wireless business is also shrinking, even as management touts its 5G promise.

Unfortunately, there are clear signs that the worst is yet to come. DISH is now projected to generate nearly -$2 billion in negative free cash flow in 2023. And while it has no maturing debt this year, $3 billion is coming due in 2024, and another $18.25 billion in 2025-29. That’s close to five times its current stock market capitalization.

Worst of all, as of last week’s market close, DISH’s bonds maturing in July 2026 were priced to yield more than 25 percent to maturity! That’s a level reserved for companies that bond investors believe there’s a high probability of default.

Let’s compare that to the other three national carriers DISH is supposed to compete with. Verizon produce 2023 free cash flow of $17 billion or $7 billion after dividends. AT&T anticipates roughly $16 billion or $8 billion after dividends. T-Mobile is on track for $13 billion plus, which it will devote mainly to share buybacks. And all three will spend 4 to 6 times more on their networks this year than DISH will.

Bottom line: Three’s good company for a healthy communications sector. Four is a formula for failed industrial policy. Governments show no sign of learning that lesson. Investors should take it to heart.