Financial Jungle

Being a Telus shareholder, I’m fascinated by the seemingly lopsided skirmish between Telus and 3 other private equity suitors in bids for a BCE takeover. According to Derek Decloet, speed is of the essence for Telus CEO, Darren Entwistle, who is doing everything he can to sweet talk regulators into a swift approval in-time for a concrete bid:

Despite the happy talk from Mr. Entwistle about how a Telus-BCE combo is best for shareholders, bondholders, customers, taxpayers, bankers, brunettes, vegetarians - have we forgotten anyone? Oh yes, kitten lovers - he knows that this scenario could be his undoing. In an interview with the The Globe and Mail on Tuesday, he invoked the Inco name at least twice and, in essence, pleaded for a better deal from regulators than Mr. Hand got. European Union apparatchiks dragged their heels for months on the Inco-Falco proposal, a delay that gave plenty of time for other bidders to plan their (successful) assault.

BCE has a reputation of squandering free cash flow on horrendous acquisitions, but they do have quite a decent wireless division (~28% market share) in addition to their decaying landlines. Is this a case of great assets with bad management? A Ferrari with me behind the wheel? Maybe Darren Entwistle is the Michael Schoemaker that BCE shareholders have been crying for; a new leader to zoom with their assets at full throttle. The word on the street is that a Telus-BCE merger would shave $800 millions to $1 billion off operating costs. To put that into perspective, the Telus and BCE earned $1.1 billion and $1.9 billion last year respectively. This is a substantial saving! In other words, BCE is worth more in the hands of Telus than the other bidders, thus enabling Telus to bid for $44/share, and topping the runner up bid of $42/share. As Ian Nakamoto puts it:

The others can bring financial muscle but not synergies.

Amidst all the merger talks, I’m curious if a Telus-BCE merger would serve as a catalyst to spark a few pertinent securities, namely BCE preferred shares and the Canadian banks.

Since the bidding story broke out, BCE preferred shares have been on a dire streak - falling about 15% - in anticipation of private buyers “loading the company with debt to pay for the buyout and thus compromise its ability to pay its dividends”. Since the glooming prediction is largely priced into the shares, there should be minimal downside from this point. But if competition regulators do give Telus the green light to merge with BCE, wouldn’t this mitigate the need for BCE to load up with debts, as Telus would most likely raise shares to fund this takeover? I’m soliciting opinions here. Of course the worst case scenario is regulators reject the Telus-BCE merger when every bidder has already upped their offer, thus further jeopardizing BCE’s ability to pay its dividends. In this scenario, preferred shareholders would be in a slightly worse situation than before. Nonetheless, it’s worth it to monitor preferred shares’ prices, while watching the events unfold.

Some Canadian banks may benefit as well, especially the ones with lower price/book ratios like National Bank and Bank of Montreal. Each of these banks already offers a superior yield when compared to long-term bonds, but now there’s a catalyst for price appreciation should the government becomes receptive of bank consolidations. In almost all acquisitions, the acquirers tend to fall and the acquirees tend to rise. If one of these banks gets taken out, we have an opportunity to sell at an inflated price, and load up the acquirer at a deflated price, however we are sailing into speculative territories.